From FDs to Stocks: Understanding Investment Dynamics

Introduction

We have long been taught that Fixed Deposits (FDs) and bonds are the safest investment instruments, while stocks are riskier, and options are the riskiest. But let's analyze this deeply to understand the true nature of these financial instruments and the dynamics behind them.

Fixed Deposits and Bonds: The Perceived Safety

Government-Issued Instruments

Fixed deposits and bonds issued by the government are considered the safest. For example, in the early 1990s, FD rates in India were as high as 12%. However, these rates have been declining over the years. This trend suggests that the government and banks initially needed to build trust in their safety. Now that trust is established, they have gradually reduced the rates.

Mechanism of Repayment

So, how do governments and banks repay the money along with the interest to the investors?

• Banks: They lend this money to individuals or businesses at higher interest rates.

• Government: They invest in infrastructure and public services, which enhance the quality of life, leading to economic growth and higher tax revenues.

In essence, neither banks nor the government are generating anything directly; they are pivotal entities controlling the financial system.

The Three Key Players in the Financial System

1. The Masses

The masses are the ultimate funders of banks and governments. They generate money by engaging in economic activities—buying, selling, and providing services to each other.

2. Governments and Banks

Governments and banks have developed trust over time and control the financial system. They act as intermediaries, channeling the funds from the masses to various economic activities.

3. Companies and Innovators

This is the most interesting part of the system. Companies and innovators are the ones borrowing money from banks and the public. They use this borrowed money to create, innovate, and enhance the world around us. By doing so, they generate profits, which then flow back to banks, governments, and ultimately to the masses who are the investors.

The Role of Companies

Companies are the actual creators of wealth. They innovate and drive economic growth. As a result, they generate profits that benefit everyone in the financial system:

• Banks and Governments: Earn interest and taxes from the profits generated by companies.

• Masses: Receive returns on their investments in the form of interest, dividends, and capital gains.

The Investment Dilemma for the Masses

Despite this seemingly perfect system where governments thrive, companies prosper, and banks control the flow of money, the masses—the ultimate investors—often face confusion and potential losses. They struggle to determine the best investment avenues to thrive alongside the system.

Conclusion

In this article, we explored the dynamics between the key players in the financial system. In my next post, I will delve deeper into finding the perfect financial instrument for the masses to invest and thrive along with this system.

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