Investing - Fixed Deposits v/s Equities

Over a period, I have heard people debating between investing in the so called riskier equities v/s the less risky fixed income investments. Here is a perspective on how you should allocate your capital between the two depending upon your investment horizon and goals. Here, I would rather focus on fixed deposits as an investment vehicle for Fixed income and equity mutual funds for investment in equities and India as the country.

So lets consider the case that the investor has an income such that his return on investment income falls in the 30% tax bracket. In such cases, the return on Fixed deposit = 9% (-30% tax) =6.3% risk free!

Now on the other hand, if the investor invests in equities with a horizon greater than 1 year, he is exempted on long term capital gains tax. Hence if the return is greater than 6.3%, it would make sense to be invested in equities. However, looking at the inherent risk, the overall return one would expect is in excess of 8 percent.
Generally, it is expected that equities return more than that as the inflation rate in India itself is around 8 percent and the basis of investing in equities is that it should at least beat inflation in terms of returns.

Considering this, it is pretty obvious that investing in FD does not make any investment sense in terms of returns. However, one should allocate a small chunk of one's portfolio to such products(15-30%) based on risk profile to ensure that the risk is partially managed in case of severe shocks in the economy.

To conclude: If you are long term investor, your equity allocation should be at least 2-3 times your fixed income allocation. Else, you are likely to be outrun by inflation in your investments.