Small is smart and attractive. Good things come in small packs. Small is affordable and easy to use. FMCG companies knew this business 'mantra’ years back. They knew that size matters. They knew that small is big. Nearly three decades after introducing sachet revolution in India, the 'moolah' for FMCG companies in the small pouch packaging only got bigger. The personal care market has been moving fast since the sachet culture was introduced in India, especially in the price-sensitive rural markets. Shampoos, toothpaste, corn flakes, mobile recharge, biscuits and even perfumes come in small packs. Sachets are helping companies sell products in small quantities to a large number of people. Undoubtedly, sachets have become the driving and disruptive force to penetrate into smaller markets.
In the world of mutual funds, Systematic Investment Plan (SIP) is that smart and attractive sachet. Much like FMCGs, mutual fund companies marketed SIP as the 'chota' financial product for small investors. Lump-sum mutual fund investments cost Rs 5,000 to Rs 10,000. However, mutual fund houses allowed small investors to put in as low as Rs 100 per month in mutual funds. Bingo! The 'sachetization' of mutual funds worked. The SIP sachet strategy achieved incredible success.
The market for SIPs has grown tremendously. Today, India seems to be hooked to SIPs, if figures are anything to go by. Investors continued to SIP even as stock markets tumbled. Powered by retail investors, SIP collections by mutual funds came in at Rs 8,231 crore in August 2019 from 2.8 crore accounts, AMFI data shows. Three years back, SIP collections were Rs 3,500 crore from one crore accounts. But are SIPs the right investment choice? Are SIPs better than other investment options? Do SIPs help you gain more? Such questions cloud the first-time MF investor. We list out 10 things to know about SIP in mutual funds.
1) SIP is a small investment
Systematic Investment Plan (SIP) is a small investment done regularly. SIP helps you invest a fixed amount regularly at a specified frequency (weekly, fortnightly, monthly, quarterly). SIP makes mutual fund investments affordable. In the past, most MF schemes required investors to invest Rs 500-50,000 as lump sum. However, small investors cannot afford to part with Rs 5,000-10,000 each month. With mutual fund houses reducing the minimum lump sum amount in a scheme to Rs 100-500, SIP has become the most popular investment option for small investors.
2) SIP is done regularly
Investors chasing their financial goals should know that the simple investment 'sutra' is to invest regularly. But one time investments, also known as lump-sum, are not regular. Investors can benefit by topping up their investments on a regular basis. If your income rises by 5% a year, you should ideally make a 5% increase in SIP annually. SIP is not just about arithmetic of investing, it is also about the habit of investing regularly. SIP inculcates a sense of investing as a habit.
3) SIP helps financial budgeting
A SIP is about fixed investments regularly. Such investment prepares the investor to shell out a pre-determined sum on a regular basis over a period of time. The first step to financial planning is budgeting. SIP helps investors to plan their finances in advance. Typically, investors on an average put in about Rs 3,300 per SIP account each month, data shows. You can invest as per your financial strength based on your monthly and annual income. The length of your SIP will depend on your defined long-term financial goals. Remember ‘a rupee saved is a rupee earned’.
4) SIP helps you buy at each market level
All mutual funds have a portfolio. When you invest a certain amount in a mutual fund, the money gets invested by buying constituents for the portfolio. If you buy on September 20, 2019, you add investments on that day. In the case of SIP mode of investing, your regular investments help you buy regularly. Instead of buying once in a while, SIP helps you buy investments at each level of the market. Sometimes you buy high, sometimes you buy low. Over a long period of time, SIP allows you to buy fewer units when the price is higher and more units when the price is lower. This is called Rupee Cost Averaging.
5)When Does SIP Work?
10 bananas for Rs 100 or 10 bananas for Rs 50? Of course, a wise consumer would prefer 10 bananas for Rs 50. SIP takes care that your average investment price works out to be lower than the price you would have paid at the market peak. When markets tumble, investors stop their SIPs or redeem their funds. This is not the right strategy. When an investor buys at lower prices, the average cost price works out to be lower than investing at the market peak. When markets trade in positive territory, you are in profit because you bought stocks at a lower price. Thus, for SIPs to work, markets should decline when you are accumulating units. Don't be afraid if markets are down.
6) SIP – When To Start, When To Stop?
The primary question uppermost on the mind of the investor should be --- Why do I invest? The obvious answer is to fulfill a defined financial goal. Therefore, investors should only stop when they reach their financial goal. The best strategy should be is to set a new financial goal, and start a new SIP. Unfortunately, when markets are volatile, investors do the opposite. When markets are falling and investments are cheaper, you should invest in SIP and invest more. If you bought a SIP at Net Asset Value of Rs 50, should you stop investing when the net asset value drops to Rs 45? No. You are getting a 10% discount. Don't sell the SIP investments unless you see the chosen fund doing consistently bad over long periods of time say three to five years. If your goal is reached, you can always redeem your SIP investments.
7) SIP returns are a function of portfolio movement
SIP returns are historical in nature. History may not always repeat. The key to get the best returns from your SIP in mutual funds is to have reasonable expectations. If you expect SIPs to deliver 20-30% returns each year, you are going to be disappointed. A 20% annual return is possible only when you continue a SIP for 15-20 years. Nobody knows when the SIP will start performing. However, SIP in mutual funds has not yielded negative returns if parked for at least 4-5 years. Investing through SIP for longer tenures can significantly increase the amount of wealth creation. This is called compounding effect --- longer periods of time allow your money to multiply.
8) SIP gain depends on average investment cost
SIP allows you to buy mutual fund units across the investment tenure. To generate returns or profits, your selling price of MF units must be substantially higher than the average investment cost. This is the only way to make money in a SIP. If SIP returns are negative, this means the selling price is lower than investment cost. SIP returns do not move in a straight line. If someone says their SIP gave 12% returns in 5 years, this does not mean the SIP gave 12% in 1st year, 12% in 2nd year, 12% in 3rd year, 12% in 4th year and 12% in 5th year. The returns can vary each year and can even be negative. Negative returns become permanent loss only when you sell the units. If you continue to hold, you may someday get better prices.
9) New SIP investors must take good advice for fund selection
Investments in a SIP is just a click away. With various online platforms available, it has become easy for retail investors to directly invest. Of course, retail investors can approach fund houses directly. But if you are a first-time investor, you must take proper advice when it comes to selecting mutual funds. A study shows that if you chose the best fund every year for 10 years, your money could multiply manifold. But if you chose the worst fund every year, your investment could see 50-60% loss. The bottom line is getting the right fund. SIP is merely a way of investing, especially when you do not have a lump sum to invest. SIP route cannot guarantee success if the chosen fund is a poor one.
10) Tax rules are the same for SIP in mutual funds
SIP is a way of investing in funds. The taxation rules are the same for SIP whether you redeem or withdraw. This means if you are doing a SIP in an equity fund, Long Term Capital Gains (LTCG) tax is levied at 10% (plus surcharge, if applicable and cess) when you sell the units after holding them for more than 12 months. Short Term Capital Gains (STCG) tax is levied at 15% (plus surcharge, if applicable and cess) if equity MF units are sold after holding them for less than 12 months. Investors adopt the SIP route for saving taxes by investing ELSS funds, which allow you to save income tax. You can save taxes by investing up to Rs 1.5 lakh in ELSS per financial year. When you do SIP, then each SIP installment is treated as a separate investment. ELSS has a lock-in period of three years. This means each and every SIP installment will be locked in (you cannot sell) for a period of three years. (The author is a journalist with 14 years of experience)