Systematic Investment Plan or Mutual Fund SIP is fast becoming a common term in the investment market. But a lot of people are still uncertain - some are cynical of the “new thing” in the market while most are just confused. With so many misconceptions on what Mutual Fund SIP is about, how and who can use it, it’s high time to clear out a few myths!

What is Mutual Fund SIP?

A Systematic Investment Plan (SIP) is not an investment; it is a method of investing in Mutual Fund SIP is not an investment scheme, just an investment strategy. Let us determine a few myths surrounding Mutual Fund SIP that can hold us off from attaining financial freedom.

i: SIP stands for SYSTEMATIC Investment Plan

This is one of the biggest mistakes that people do when considering systematic investment plans. People think that Mutual Fund SIP is for investing small sum of money. Mutual Fund SIP can be done for investing Rs 1000 per month, 1 lac per month and even for 1 crore per month.

Mutual Fund SIP is just a concept for a periodical, well-disciplined, long-term investment not limited to the amount of investment.

Irrespective of the amount invested, it is important to understand that the investment is into an underlying asset. And instead of timing the purchase, we are simply averaging the ‘per unit cost’ of the investment. The rupee cost averaging works alike for all. Regular investment through ups and downs, whether it is a small or big amount, using Mutual Fund SIP, results in better long term returns.

ii: Penalty if I stop my Mutual Fund SIP in between?

This is another prevalent myth about Mutual Fund SIP investment. Considering Mutual Fund SIPs in equity funds, if you have committed to an investment for a period of say 10 or 20 years, then you cannot change its tenure or the amount. And if you do, you will be penalized. This is not true.

You can continue, or stop, or adjourn the Mutual Fund SIP, as and when you wish to do so. This can be done by giving a written request duly signed, allowing about one month for the fund to adhere to this instruction. And,

or changing the amount, all you need to do is stop the existing Mutual Fund SIP to start with a new one.

iii: Lump sum or SIP?

There are two questions that need to be answered before we decide to make a choice between Lump sum and SIP.

Can you be sure of your lump sum investment today, to fetch guaranteed positive returns after 5 years?

By investing as a lump sum, there is a possibility that, you may enter the market at a very wrong time. Whereas by investing in SIP, you are restricting yourself to enter everything at a wrong time. Mutual Fund SIP reduces the risk by diversifying our investments on different timelines.

Timing the market is very risky due to its volatility – you can never be sure what the state of the market will be after 5 years. But by investing the same amount in installments regularly over 5years, you can use the market volatility to your advantage. You would be participating not only in the upswings of the market but also restricting the losses in a falling market. So, the robust returns in case of Mutual Fund SIP, are received despite the fact that the investments would be subject to volatility at different levels.

The second question is whether everyone has large, lump sum amounts to invest at one go? It is easier on your everyday budget to invest smaller amounts regularly.

iv: My returns are low – SIP isn’t working for me!

People tend to keep looking at their investments to see how much their returns are. If you invest in SIPs, looking at the absolute returns after short intervals is not going to make you feel good. SIPs are based on the Internal Rate of Return (IRR) of the investments.

Usually, in a short term SIP, the absolute returns seem lower than the IRR. This is because in an SIP, you invest at various points in time, not the whole of it at one go. Therefore, there is no one point-to-point annualized return. The returns will look good, if you consider the varying intervals of investment, after a long term.

v: Markets are high! SIP can wait

People ask – when should we start investing in SIP? The right answer is – Any time is a good time! If we could predict the markets, then the concept of SIP wouldn’t exist! It is not the time at which you invest that is important but the duration for which you invest regularly.

The volatility of the market is used to an advantage by investing in an SIP. The ups and downs of the market make sure that in the long term the price fluctuations don’t affect you because of the concept of averaging the cost of investment.

What you think NOW, as the market high will be a lowest point of investment, 5 YEARS LATER.

vi: Mutual Fund SIPs are ONLY for long term

Mutual Fund SIPs need not be continued for long term. Even Mutual Fund SIPs can be enrolled for a minimum of 6 months. However, the investments made in that 6 months need to stay for long term.

In other words, the “investing” time of Mutual Fund SIP can be short term. The “holding” time of an investment done through Mutual Fund SIP should for long term.

vii: No for Mutual Fund SIP as I have a variable surplus every month

This is again a misconception. I have a variable surplus every month. So SIP is not suitable for me. Because SIP accepts only a fixed investment every month.

The point I would like to highlight is, you can commit a lower sip every month and add whenever you have surplus. For e.g. your surplus/savings varies every month from Rs 5000 to Rs.7000 to Rs.10000. In this case commit an SIP for Rs.5000 and make additional investment of Rs.2000 in the months you have surplus of Rs 7000. Similarly do an additional investment of Rs.5000 when you have a surplus of Rs.10000.

You can make SIP and additional lump sum investments under the same folio.

SIP: Smart Investment Plan

It is important to take well-informed decisions about your hard-earned money. Thus, it is necessary that we are free of any myths and misconceptions. Whether the amount is small or big, by investing the same regularly and giving it adequate time, you will reap the benefits of SIPs in the long term. Getting away with trivial myths, can also help us believe SIPs to be SMART Investment Plans !!! Also, to be a successful long term investor, having a well drafted financial plan will be of immense help.

The author is Ramalingam K, an MBA (Finance) and Certified Financial Planner. He is the Director and Chief Financial Planner of Holistic Investment Planners (www.holisticinvestment.in) a firm that offers Financial Planning and Wealth Management. He can be reached atramalingam@holisticinvestment.in

Investing in a mutual fund is easy. All you have to do is to buy shares of the fund (called units) and become a shareholder. Your money, pooled with money from other investors, is what constitutes the fund. These funds are then invested by a professional money manager in various stocks, bonds etc. 

So how does a mutual fund make money? In two ways: by earning dividends or interest on its investments and by selling investments that have appreciated in price. The fund pays out, or distributes, its profits (less fees and expenses) to its shareholders. That's how you make money. Most funds offer investors the option of reinvesting their distributions in the fund by buying more shares.

Why invest in a mutual fund?

Well, there are several reasons. First, since a fund can own hundreds of different securities, its success or failure is not going to be dependent on how well a handful of securities perform. In other words, a mutual fund is well diversified. Spreading your money in this way among many different companies and industries effectively reduces your risk--it reduces the possibility that you may lose money. This diversification is one of the biggest advantages of mutual funds. For most of us, the amount of income and investment knowledge required to accomplish similar diversification would be impossible to obtain. Also, sharing expenses with millions of like-minded investors, through a mutual fund, significantly reduces your investment cost. That's because a mutual fund is an "institutional trader" and can therefore buy securities at wholesale prices. There's also an additional reason for investing in mutual funds now. The dividend in the hands of the receiver (that means you) is tax-free.

By investing in a well-managed mutual fund, you share the expense of hiring a professional money manager with a proven track record. Your Rs500 will receive the same attention, and get the same returns, as the money of institutional investors, who place billions of rupees a year.

Choosing the right fund is critical

There are other benefits. You don't have to bother with the task of keeping a record of your investments. Your investment is liquid, at least for open-ended funds, and you can surrender your units to the fund and get your refund within a few days. Of course, not all funds are equally liquid, which is why choosing a fund is so important.

Before you buy units in any mutual fund, it is important that you know exactly how much it is going to cost. All mutual funds charge a management fee. It doesn't matter if you buy from a bank or a broker, you will pay a management fee. These fees are usually given as a percentage of the fund's total assets and pay the administrative costs and the wages and bonuses of fund managers. In addition, some mutual funds charge a "load" when you buy or sell your mutual fund units. A fee when you buy your units is known as front-load and if the fee is on redemption, it is known as a back-load.

What is the net asset value of a fund?

The net asset value (NAV) of a mutual fund is the rupee value of one unit of the fund and is calculated by dividing the current market value of the fund's assets, less liabilities, by the number of units already sold. For example, if the fund you are interested in has assets worth Rs20 crore, after deducting the liabilities, and there are 1 crore units already sold, each unit is worth Rs20 (Rs20 crore divided by 1 crore). This means you would pay Rs20 for one unit of the fund,and the NAV is Rs20.

The only way the NAV will change is due to the rise or fall in the market value of the assets held by the fund. Let's say that the same fund's assets increased to Rs30 crore due to some great investment decisions of the fund manager and the number of units outstanding (sold) remained unchanged at 1 crore. The NAV of each unit you held would now be worth Rs30 (Rs30 crore divided by 1 crore). Anyone now buying into the fund would have to pay the new NAV of Rs30 per unit. If you decided to sell, you would have made a capital gain of Rs1,000. On the other hand, if you decided to stay with the fund, this capital gain would be paid out in the form of distribution of the Rs1,000 or be reinvested in additional units. Once distributed, or converted into additional units, the NAV will fall. Clearly, the NAV will fluctuate according to the market value of the stocks and bonds the fund has invested in.

 

What are Mutual Funds?

 

What are the constituents of units of mutual fund?

 

Stocks, Bonds, Debentures

 

Can I buy or sell them anytime?

 

Yup, Open-end mutual funds can be purchased or sold anytime directly from/to the mutual fund company.

 

 The other type of mutual fund which is closed-end mutual fund, they cannot be sold and purchased directly from the mutual fund company instead they can be transacted with other investors in the open market In OTC

 

At what price will the close-end or open-end units be sold?

 

1. open-end – At Net Asset Value (NAV) which is changed daily. Have a look at the NAVs of different mutual funds http://www.amfiindia.com/net-asset-value/nav-history

2. closed-end – Like in share market, may be at premium or at discount.

 

There are 1000’s of types of mutual funds out there. How can I choose the right one among them?

 

There are 5 broad categories of mutual funds and an investor can choose the one which may fit her needs:

 

1. Money Market Mutual Funds – They are consisted of short term debt instruments like treasury bills. They have less return but secured. If you can’t take risk then it is better to park your money in money market funds.

 

There are 2 types of money funds: Institutional – Made for Govt., Corporations etc. and Retail – Made for Individuals.

 

 

2. Bond/Income Funds – These are for investors who need steady income. They are also called fixed income securities. These funds are invested in high yield or junk bonds (high risk of default but high return), govt. bonds or corporate bonds. Return is generally more than money funds but risk is more.

 

 

3. Equity Funds – These funds consist of stocks of the companies. They may focus on specific industry or sector. It can further be classified into capitalization based or investment style based.

 

· Capitalization indicates the size based on the value of the company’s stock and the types are:

 

a) Small cap (value less than Rs. 100 Crores)

b) Mid cap (value between Rs. 100 and 1000 Crores)

c) Large cap (value above Rs. 1000 Crores)

 

· Stock funds are classified into:

 

a) Growth funds – Investment in stock of fast-growing companies.

b) Value funds – Investment in cheap funds.

c) Blend funds – Unbiased towards growth or value based funds.

 

 

4. Hybrid funds – These funds consist of stocks, bonds and other securities. Balanced funds, MIP (monthly income plan) Aggressive and MIP conservative are types of hybrid funds.

 

5. Index funds – Funds with an objective of generating returns that can commensurate with the performance of a benchmark index like CNX Nifty Index and S&P BSE Sensex. Kotak Nifty ETF is an example of such fund.

 

Will there be any tax on dividend and sale of units?

 

· Dividend – Exempted in the hands of Ulip holder.

· Sale of units – Tax on short term or long term capital gain, if security transaction tax not paid.

 

What will be the commission paid while buying and selling units?

 

In Mutual, we call commission as load. Very nominal load fees like 1% or 2% need to be paid. While purchasing, entry load is charged and while selling, exit load is charged. There are some mutual funds with even zero entry or exit load.

 

Why should I invest in Mutual funds?

 

1. Dividend received from units of MF is exempt u/s 10(35) of Income tax Act, 1961.

2. No need to worry because there are experts who are trading on your behalf. You need no professional skills.

3. MutualFunds units are diversified. So failing of one or more securities may not have any huge impact on the earnings.

4. No need to buy securities in bundles. Indirectly you are investing in a number of companies without any limit.

5. No need to  have a huge amount of money to trade. Like in Rs. 10,000 you can get a good deal.

6. High liquidity. If you need money urgently, you can get it within 1 day of sale.

7. You need not to pay heavy brokerage like while dealing directly in securities through broker. MF companies charge a nominal fee as they have their own contract with brokers.

8. In some cases it's more efficient than to invest in ETFs or closed-end fund.

9. Can get a deduction u/s 80C of IT tax, 1961 up to Rs. 100,000.

10.Can diversify your portfolio later including more types of mutual fund into the same.