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Protecting the capital

Debt investments can be protected but when it comes to equity, capital erosion can happen, writes Arnav Pandya.
None | By Arnav Pandya
UPDATED ON OCT 22, 2007 10:10 PM IST

Often investors are unable to distinguish between the various reasons for which they undertake investment. There is also a common misconception that anyone who wants a safe investment is talking about some sort of capital protection. There has to be a distinction between various forms of efforts to earn some returns and the fact is that capital protection can mean something that is entirely different as far as the investor is concerned.

Nature of the term

When we refer to the term capital protection this means that there should not be any erosion in the capital. For example, if the investor puts in a sum of Rs 10,000, then after three years if he desires some sort of capital protection then he would want the entire Rs 10,000 invested back. This means that the investment is made in such a manner that at the end of the specified time period no part of this money is lost. This is possible in case of debt investments but not possible when it comes to equity investments, as there can be capital erosion if the value of the equity falls.

Returns and capital protection

Many investors are so focused on the point of capital protection that they do not look at the returns side at all. When there is a talk of capital protection it means that the money that you have invested comes back.

However, if there is no mention of any return, it could be that the return on the money is extremely low. This could mean a loss of opportunity because the investor could have put the money elsewhere and have earned a higher rate of return that what they earned at this place.

When a person is looking at the long-term situation, he should focus his attention on the fact that there is some sort of return that he is earning. This is essential because just ensuring that there is capital protection does not make the life of the investor better.

There is inflation that is to be considered and due to this factor, the value of the money that the investor has in his hands is falling with each passing day.

For example if you have Rs 1 lakh with you today and you are more focused on capital protection then this will remain at Rs 1 lakh after 10 years.

But at that point in time the value of this amount will be quite low. What this means is that unless this amount grows you will not be able to enjoy the same things with the money as you are doing today.

(The writer is a Certified Financial Planner)

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