Many retail investors have started taking SIP route to investing in equity mutual funds. Even in the recent market fall, most continued with their SIPs. This is a good trend. For success in equity markets, you need investment discipline. And SIPs help you maintain that discipline.
However, I feel investors have become too optimistic. Investing through SIPs is fine but they have started to ignore risks that are inherent with equity investments.
The credit goes to investor awareness programs (limited impact) and media and marketing blitz by the Asset management companies (AMCs). Investors who were scared of taking exposure to equity markets have begun to feel that you cannot lose money in equity markets if you invest through SIPs. Essentially, they have gone to the other extreme.
Is this right? I don’t think so.
I do not deny SIP is the best way to invest in equity mutual funds for retail investors. However, that does not mean you cannot go wrong with SIP.
In this post, I will discuss a few misconceptions investors have about Systematic investment plans. To start with, let’s first see what Systematic Investment Plans (SIP) is.
What is a Systematic Investment Plan?
It is a way to invest in mutual funds. When you start a SIP, you allow the AMC (mutual fund house) to auto-debit your bank account on a particular date every month and use the amount to purchase mutual fund units. And that’s it. SIP is nothing more than that.
SIPs help in rupee cost averaging. Suppose you invest Rs 10,000 per month in SIPs. In a particular month, suppose NAV is Rs 100 per unit, you will get 100 MF units. Next month, it is 125; you will get 80 MF units. In the third month, it is 80, you will get 125 units. In the fourth month, it is 75, you will 133.33 units. In the fifth month, NAV is 120 units, you will get 83.33 units.
At the end of 5 months, you have invested Rs 50,000 and got 521.7 MF units at an average price of Rs 95.84. So, even though the price ranged from 75 to 125, your average price is Rs 95.84.
For you to make money on this investment, the NAV of MF unit (at the time of sale) must be greater than Rs 95.84.
I have shown the SIP for just 5 months. You can run the SIP for years. For you to make profit, the average selling price should be greater than average cost price. Simple.
SIPs help you save the futile effort of timing the market. Anyways, not many can time the market.
SIPs lead to inertia. You have set up ECS mandates. Money gets automatically debited and gets invested. You don’t have to go through emotions and bear with market noise. One of the few cases where inertia can help.
Must Read: How SIPs make long term investing easier?
Now, let’s look at some of the misconceptions.
Myth 1: You cannot lose money if you invest through SIPs.
SIP is no magic wand. It is not guaranteed that you will get good returns in SIPs. You may even incur losses.
As mentioned in the previous section, for you to make money, average selling price has to be greater than average cost price. And that is the underlying premise.
The underlying premise about success of SIP in equity mutual funds is that the equity markets will do well over the long term. Suppose you invest in an index fund (that replicates the Nifty performance perfectly). You invest Rs 10,000 every month in SIP for 5 years. The average purchase level of Nifty is say 8500. For you to make money, Nifty should be above 8500 at the time of sale. If it is less than 8,500, you will incur a loss.
If the Indian equity markets perform badly over the long term, your SIPs will also fare badly.
Myth 2: SIP is an investment
I get a number of queries such as “I want to invest in a SIP. What should I do?” You cannot expect this question from someone who understands mutual funds. Again, the credit goes to the marketing teams of AMCs. Many new investors (with little knowledge of MF investments) have begun to feel that SIP is a wealth creation tool that cannot miss. So, they want to ride SIP bandwagon and want to invest in SIPs.
SIP is not an investment per se. SIP is merely a way to invest in mutual funds. And it is not the only way. You can make lump sum investments.
In fact, you can even invest systematically without taking the SIP route.
Rather than giving AMC the mandate to debit Rs 10,000 from your bank account to invest in a particular MF scheme on say 15th of every month, you can go to AMC website (or any other MF portal) on 15th of every month and invest Rs 10,000 in the scheme.
Myth 3: Investing through SIP reduces your risk
Completely untrue. With SIP, you merely avoid the risk of investing at very high market level. On the other hand, you also let go of the opportunity of investing at a potentially low level. So, it can work both ways. Well, no one has the gift of hindsight.
Volatility inherent with equity markets and the risk of loss is still there. It does not change just because you are investing through SIP.
Investment through SIP does not reduce market volatility for you. You invested Rs 10,000 per month for five years at average cost price of Rs 92 per unit. Somehow, I happened to invest Rs 6 lacs on a day when NAV was Rs 92. Both of us have invested Rs 6 lacs and the average price is Rs 92.
If we leave out the tax implications, aren’t both of us subject to same volatility and risk of loss?
Myth 3: You must use SIP to invest in any kind of mutual funds
SIPs are well suited for investment in equity mutual funds. This is because equity markets can be quite volatile in the short term. For investment in debt mutual funds, you are better off investing lump sum in most cases.
If you have Rs 10 lacs that you want to invest in a liquid fund or an ultra short term debt fund, you are better off investing lump sum. If you are talking about long duration debt funds, getting on the right side of interest rate movement is more important than investing systematically.
I have simplified the argument too much. However, SIP may not always be the best way to invest in debt mutual funds.
Must Read: All you need to know about Debt Mutual Funds
Myth 4: SIP in any mutual fund will do
That’s not true either. You have got to select the right mutual fund. Performance of 10 year SIP in large cap funds varies from 4.36% p.a. to 13.22% p.a. For a SIP of Rs 10,000 per month, that will be a difference of ~Rs 9 lacs (Rs 23.9 lacs – Rs 14.9 lacs). This means choice of product is important too. You need to select the right mutual fund too.
Must Read: Focus on SIP returns
Myth 5: Date of first installment of SIP is the date of investment
Many who invest in ELSS have this confusion. Every installment of SIP is fresh investment and is subject to fresh lock-in (in case of ELSS), capital gains and exit load.
Suppose you start SIP in an ELSS of Rs 2,000 per month. The units you purchased with installment on January 20, 2016 is locked in till January 20, 2019. Units purchased through SIP installment on Feb 20, 2016 will be locked in till Feb 20, 2019. And so on.
You can extend the same argument for capital gains tax and exit load implications.
PersonalFinancePlan Take
- In my opinion, SIP is still the best way to invest in equity mutual funds for retail investors like you and me. I am not saying you cannot produce better results by taking any alternative approach. Just that you need great skill and discipline to pull it off. Not many investors can do that. At least, I can’t. Hence, it is better to stick to SIP for investment in equity mutual funds.
- The inertia of SIP helps you stick to investment discipline.
- If you were investing every month on your own (without SIPs), you may find it difficult to invest when every business news channel is spelling doom and gloom for the markets. Essentially, this way, you may not invest when the markets are down and come back when the markets are up. With such approach, you will invest only when the markets are at higher levels (or in an uptrend). So, your average price will likely be high.
- Take cognizance of the risks involved. SIPs are not fool proof. You can even incur losses.
- SIP does not provide guaranteed results. However, I feel the Indian economy should do well over the long term. And equity markets should well too over the long term. Therefore, your MF investments (through SIP) SHOULD do well too.
There is risk attached with every investment. You must be aware of such risk.
Image Credit: Simon Cunningham/LendingMemo[dot]com, 2013. Original Image and information about usage rights can be downloaded from Flickr.
24 thoughts on “Myths about Mutual Fund SIPs”
Once again , a very simple straight forward shooting from the shoulder!
Thank You for trashing the myths
You are welcome, Venu.
Please do share with friends and family.
Hello Deepesh,
Couple of quick questions :
1. Can I change the SIP amount midway ( within 1 year) or would that incur exit load?
2. At the end of the SIP period, would the total amount be automatically credited to the bank account(like an FD/RD) or should it be redeemed?
Thanks
Venkat
Dear Venkat,
SIP is merely a way to invest in MFs.
1. Exit load, if any, is applicable only on redemption of units. Hence, cancellation of SIP and modification of SIP (most sites don’t allow this) does not entail any exit load. You are redeeming or selling your MF units. You are merely stopping or changing your further investments.
2. No. At the end of SIP, you will not make any further investments (unless you choose to create a new SIP). Thats it. If you want funds in your accounts, you will have to redeem MF units in your portfolio.
Thanks for the info Deepesh. Just one more query though.
Suppose I invest & redeem lump sum amounts at irregular intervals(in equity MFs), would an exit load be applicable? Or is exit load applicable only in case of a SIP?
You are welcome, Venkat.
Every MF unit is subject to exit load. The mode of purchase (SIP or lumpsum) is immaterial.
Well explained in simple words.
Thanks Rakesh.
Please do share with friends and family
Hello Deepesh,
I am new to MF world. Could you please guide me on this?
1. I am planning to invest 6000/month in 2 SIPs (3000 for each one) for tax saving purpose. Out of these 2, one SIP would be for 5 years and other for 15 to 20 years. Which plans would be best for me?
2. Since tax saving SIPs are locked for 3 years, does redemption after 3 years is subject to any tax?
Sure Santosh. You will learn with time. Keep at it.
1. For MF recommendations, please visit http://www.personalfinanceplan.in/our-offerings/.
2. At the moment, long term capital gains (holding period > 1 year) are exempt from tax. Since units of ELSS cannot be sold before 3 years, there is no tax implication at the time of redemption of ELSS units.
Do note units purchased through every installment of SIP is subject to a fresh lock-in of 3 years.
Hello Deepesh,
Have invested in few SIP’s on bankers recommendation. You said that each installment has lock in period of 3 years. I have few SIP which have ended now,and I am not paying installments after April-2016. Have not redeemed them yet.Want to know
1)how to calculate correct time to redeem.
2) How to calculate % profit/loss?Does it depend on NAV?
3)Will I get the NAV of the day I redeem my units?
Thanks
Hi Madhu,
1. Nobody knows the correct time to redeem. Redeem the units if you have reach the desired goal. Alternatively, redeem a few years before you need the funds.
2. yes, it depends on NAV.
3. Yes
Hello Deepesh,
I am still struggling with the concept of exit load of a SIP and redemption of units.
Would be extremely thankful if you can let me know if the below argument is correct.
If I start a SIP for 1 year from Jan 2016 to Jan 2017 then each SIP is considered a fresh investment, right?
Supposing I redeem the units on Feb 2017, then exit load is applicable on all 11 installments(from Feb 2016 to Feb 2017) right?
So, if I were to avoid the exit load on all 12 installments, I should stop the SIP on Jan 2017 and redeem the units on Jan 2018, right? (So effectively it is 1 year of investments and 1 year of waiting period to redeem, to avoid exit load).
Is the argument correct?
If I am right, to avoid exit load, is it not better to invest in a lump sum amount and redeem the investment after 10-15 years? ( Will the power of compounding not work in this case?)
Thanks in advance for your response ( I promise not to bug you anymore on this !).
Hi Venkat,
If I start a SIP for 1 year from Jan 2016 to Jan 2017 then each SIP is considered a fresh investment, right?
Yes
Supposing I redeem the units on Feb 2017, then exit load is applicable on all 11 installments(from Feb 2016 to Feb 2017) right?
Yes. Exit load period varies across schemes. Take note of that
So, if I were to avoid the exit load on all 12 installments, I should stop the SIP on Jan 2017 and redeem the units on Jan 2018, right? (So effectively it is 1 year of investments and 1 year of waiting period to redeem, to avoid exit load).
Yes
Is the argument correct?
If I am right, to avoid exit load, is it not better to invest in a lump sum amount and redeem the investment after 10-15 years? ( Will the power of compounding not work in this case?) See, do not give undue importance to exit load. Anyways equity investments are meant for long term (and not for 1 year). You can invest lump sum. The only risk with lump sum investment is that you might get invested at very high levels. Alternatively you forgo the opportunity to invest at very low levels. With SIP, there is good chance (no guarantee) that this won’t happen.
I have invested in Franklin India Templeton ELSS scheme through SIP. But now a days it’s NAV is quite high around 420-440 range. Do i need to change my mind to other funds?
Govinda,
NAV of the fund is immaterial.
Please go through the following post.
http://www.personalfinanceplan.in/mutual-funds/five-mistakes-to-avoid-while-investing-in-mutual-funds-2/
Sir
My question and argument with one of my investor friend is as follows:-
1. You are right in mentioning that SIP is only a mode of investing and not an investment. Also SIP is done to average the cost of investment.
2. My argument with my friend is SIP is designed for debiting the account on one single day in a month. What happens if NAV of the MF moves downward the very next day due to market volatility. So the day we choose to debit the account is pure luck. Instead my argument is if I intend to put say 30,000 in a MF for one month. Why cant I split the SIP on a daily basis i.e 300 INR per day to buy the same MF.
This way, the true meaning of averaging the cost applies and not dependent on luck. Since SIP is auto and no manual intervention is required, all it takes is little bit of work when we subscribe.
Please advise if this thought of mine is correct. My friend says my idea cannot work as MF will not allow SIP on a daily basis. I dont invest in MF hence never tried with this concept in real life.
Your thoughts on this will be appreciated.
Regards
Ninan
Dear Ninan,
You have raised a very pertinent point. However, I feel you are overdoing it.
You may say that markets conspire against you and the market level is extremely high on SIP date month after month. Firstly, this is unlikely to happen. Secondly, even if it does, the impact on returns won’t be as high as you expect.
The basic premise behind success of SIPs is that markets will be much higher over the long term.
You may invest at Nifty level of 8000 or 8200. The difference would’t be as much if the Nifty is say 20,000 after 7-8 years (hopefully).
I suggest you do an exercise. Assume you started 2 SIPs 10 years back. Under first SIP, you pick highest NAV for the month.You can pick Nifty level as proxy for NAV. Under second option, do a daily SIP. Calculate and compare the returns.
In my opinion, the difference won’t be as high.
In my opinion, daily SIP is an overkill. AMCs may allow daily SIPs (perhaps not all).
However, AMC may have a floor of SIP amount.
Dear Sir
Thank you. As always very precise and clear. I agree MF price volatility is not that high during a month unlike shares.
My friend will now gloat but concept is clear.
Thank you
Regards
Ninan
You are welcome, Ninan.
1)suppose i took a SIP for 3 years ,monthly i am paying 1000rs …so total investment will be 36000 (apr 2017-apr 2020)…by april 2020 schemes wil get over .do i need to withdraw at that point itself ,r can i hold it for few years ????
2)suppose i invest a lumsum of 10000rs at a time ,after 1 year again i add 15000 ,…. can i hold it as long as i wish to do ??
3)when we buy on our own some mutual funds whether we need to pay anything extra ,if we exit after 3 years (like in case of delivery if i buy for 10000rs i need to pay 50-60 rs to broker) ??
1. I didn’t get your question.
2. Yes
3. Not sure if I got your question
Sir
(1) I am 27 years old and I want to invest Rs. 6000 every month for a minimum period of 15 years. Now, should I invest this amount in a single fund or I diversify it in three different funds?
(2) If I decide to allocate it in three different funds then what kinds of funds should I select—- Large cab, mid cab or small cab?
Please guide me.
Hi Dipankar,
In my opinion, three funds will be an overkill.
You can pick up a multi-cap or a balanced fund. That should do.
If you want more funds, you can pick up a large cap and a mid cap fund.
Increase your monthly investment (from Rs 6,000) as your income increases.