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Session 15: Modes of Investing in Mutual Funds



We are glad to have you with us for our Fifteen Session - Modes of Investing in Mutual Funds.


So let us now begin with our learning session today.

[Introduction on the subject]

In our previous learning session, we learnt about various investment options that you can look at while investing in mutual funds. But do you know, mutual funds offer various modes of investing that are designed to fulfil your various needs? Yes. Even if you are new to mutual funds, it is not necessary to have a big amount for you to start investing in mutual funds. You can start your mutual fund investments with a small amount and keep on investing regularly till it steadily grows to a decent amount that may help you meet your financial goals in the future. Let us take them one by one and see how you can invest in mutual funds at your convenience. Moreover we will also tell you about some features that mutual funds offer that you can use to withdraw your investments as per your needs.


Popular Modes of Investing in Mutual Funds

While mutual funds offer various modes of investing, one should preferably consider his or her convenience while investing in mutual funds. Some of the key modes of investment offered by mutual funds are:

  • Lump Sum or One Time Investment (...If you have a big sum of say Rs 1 lakh in your bank account and are looking to invest it in mutual funds at one go, then you can consider investing via lump sum mode. But beware! Investing all your money at one point, may call for market risk. And so to reduce this risk, there is an option called...)

  • Systematic Investment Plan (SIP) (...SIP can help you invest your money gradually every month or quarter. Where you can instruct the mutual fund to buy units of the scheme in your folio, by debiting a fixed amount from your bank account every month or quarter. But do not forget, that the balance money lying in your bank's savings account may continue to earn a lower rate of return. So what can be a better option, to increase returns on your money lying idle? Well, mutual funds offer an opportunity to invest regularly while providing an opportunity to earn better returns on your idle money, through...)

  • Systematic Transfer Plan (STP) (...STP is a mode of investing, where you initially park your entire Rs 1 lakh in a less risky category of mutual fund such as a liquid scheme, and then systematically transfer money on a regular basis from the liquid scheme to an equity fund or any other mutual fund scheme of the same fund house. So, while you are able to invest your money on a regular basis, the liquid scheme provides you an opportunity to earn returns better than your bank's saving account.)

(Let us run you through this in more detail ...)


Lump Sum or One Time Investment
  • Lump Sum Mode helps Invest all your Investible surplus at one go (...Even if you have a large corpus to invest, you can invest all your money in a mutual fund through a single transaction. But as we mentioned earlier...)

  • Lump Sum Investment attracts market risk (...so you need to be careful. You should invest in lump sum only if you have an appetite for higher risk as chances are high that, you may see your investments in the negative for some time. Ideally while investing in lump sum, you should have a longer time horizon. Or, on a cautious note, if you have a short term horizon, then you should invest your lump sum money in less risky options like liquid funds.)

  • LumpSum Investment can be rewarding only if the long term trend of the economy is positive (...you see, the impact of near term market volatility may fade over time.)

  • (...So we can say that lump-sum investment is...) More suitable if you are ready to take High Risk in anticipation of High Return (...or are willing to compromise on the returns by parking your entire surplus in Low Risk option such as liquid funds)

  • (Also as there is a single transaction, ...) You can make your Investment via a Single Cheque (...You need not write multiple cheques or fill any additional forms. So if you have say Rs 1 Lakh to invest, you can make a lump-sum investment by writing a single cheque of Rs 1 Lakh in favour of the mutual fund scheme and submit it along with the application form.)

(The other mode of investing is popularly known as SIP...)


Systematic Investment Plan (SIP)
  • SIP is a disciplined Mode of Investment (...SIP helps develop disciplined investment strategy by spreading your investments over a certain time period. Through SIP you can invest a fixed sum of money on a regular basis, in a mutual fund scheme.)

  • You can start SIP with a lower investment amount (...You see, if you make a one-time investment you may need a minimum amount of Rs. 5,000/-, but opting for the SIP mode you can start with an amount as low as Rs. 500/- per month.)

  • (So...)SIP can help you steadily build a corpus over time (...With the power of compounding SIPs can be a smart financial planning tool that may help you create wealth in the long run.)

  • SIPs provide you the benefit of Rupee Cost Averaging (...Through SIP, you invest a fixed amount every month, irrespective of the market movements. As the investment happens on a regular basis, you get an opportunity to invest at various market levels. So when the markets fall, you buy more units with the same amount; while if the market trends higher, you buy less units and simultaneously the value of your existing units grow. So in the long run your cost of buying is averaged out and your Average Cost per Unit may work out to be lesser than the Average Price per Unit.)

  • You can start your SIP with a One-Time Instruction (...Along with a cheque for the first transaction, you need to fill a one-time instruction form called SIP Instruction form through ECS/Direct Debit, which needs to be submitted only once. Post activation of your SIP instruction, the money can be deducted on a regular basis from your bank account and invested in the respective mutual fund scheme.)

Now let's take an example to see how SIP works...
...Suppose you have Rs 1.2 Lakh in your bank account, you may easily split your investment over a period of 12 months and invest Rs 10,000 per month in the mutual fund scheme through SIP...

SIP vs.Lump-Sum
Month S&P BSE Sensex Systematic Investment Plan Lump-Sum
Investment
Amt. (Rs)
Units Market
Value (Rs)
Investment
Amt. (Rs)
Units Market Value
(Rs)
15-Jan-2013 19,987 10,000 0.50 10,000 120,000 6.00 120,000
15-Feb-2013 19,468 10,000 0.51 19,740 - - 116,886
15-Mar-2013 19,428 10,000 0.51 29,699 - - 116,642
15-Apr-2013 18,358 10,000 0.54 38,064 - - 110,219
15-May-2013 20,213 10,000 0.49 51,911 - - 121,358
17-Jun-2013 19,326 10,000 0.52 59,632 - - 116,032
15-Jul-2013 20,034 10,000 0.50 71,819 - - 120,286
16-Aug-2013 18,598 10,000 0.54 76,670 - - 111,663
16-Sep-2013 19,742 10,000 0.51 91,387 - - 118,533
15-Oct-2013 20,548 10,000 0.49 105,114 - - 123,367
18-Nov-2013 20,851 10,000 0.48 116,665 - - 125,187
16-Dec-2013 20,660 10,000 0.48 125,595 - - 124,039
15-Jan-2014 21,289 120,000 6.08 129,425 120,000 6.00 127,821
Returns (XIRR)     14.80%   6.52%
(Source: ACE MF, PersonalFN Research)
(The above scenario is shown for illustration purpose only. The actual scenario may differ from the above illustration. Past performance may or may not result in future.)

Say if this was a scenario in the beginning of C.Y. 2013 and, as can be seen in the table, if you invested this money in equities or in S&P BSE Sensex over a period of 12 months in C.Y. 2013; then with the same amount of money, the investments via SIP would have helped you accumulate more number of units than your lump sum investment. We can see that the value of your one-time investment of Rs 1,20,000 was in the negative for a while due to the downside market movement, while simultaneously SIPs helped you accumulate more units. As a result your investment via SIP would have delivered returns better than the lump sum investment. However this is just an example of how SIPs can help you benefit even from market volatility. It is not necessary that SIPs outperform lump sum investment every time; but they do help you with disciplined investment and rupee cost averaging that help you steadily create wealth in the long run.

(The next mode of investing that we would like to explain is...)


Systematic Transfer Plan (STP)

(Though less popular, STP is an advanced version of SIP, which functions with a similar objective... so let's see what makes STP different from SIP...)

  • STP helps in gradually investing a large corpus in a selected asset class (...Like SIPs, STPs help you invest gradually in a selected asset class like equities. But unlike SIP, in STP the investor initially invests in less risky liquid funds that may offer better returns, and over time gradually or systematically transfer a certain amount from the scheme to another scheme which may be an equity fund from the same fund house.)

  • (So can we say...) STP is a relatively safer investment method than lump sum investment and may prove to be a higher yielding method than SIP investment (...As all your money is not invested directly in risky asset class, STP may turn out to be a relatively safe investment strategy. Moreover, it also provides you with an opportunity to put the idle money in your bank's savings account

  • (So if used sensibly...) STPs can be a smart financial planning tool (...that can help you utilise your corpus towards meeting your long term financial goals.)

  • STPs provide you with the benefit of Rupee Cost Averaging (...Like SIPs, STPs too help you invest on a regular basis at various market levels. So when the markets fall, you buy more units with the same amount; while if the market trends higher, you buy less units and simultaneously the value of your existing units grow.

  • You can start your STP with a Single Mandate (...So as an investor, you need to give a single mandate to the fund house to periodically and systematically transfer a certain amount from one scheme to another. While you need to draw the cheque in favour of the initial scheme, you should mention, in the STP application form, the name of the secondary scheme where you wish to transfer the money, along with the amount and period. The fund house will process the transactions as per your instructions.)

Now let's see how STP works...
If you wish to invest Rs 1.2 Lakh lying in your bank account, but without putting all your money directly to market risk, you may opt for STP. Through STP, the entire Rs 1.2 Lakh can be invested in a low risk liquid scheme of the mutual fund house of whose equity scheme you wish to invest in.

Month Opening
Balance in
Liquid Fund (Rs)
Transfer to
Equity Fund (Rs)
Closing Balance
in Liquid Fund (Rs)
Return from
Liquid Fund
@ 7% p.a. (Rs)
Return from
Equity Fund
@ 12% p.a. (Rs)
Final Value
of each
Transfer (Rs)
Total Value
of Investment
(Rs)
1 120,000 10,000 110,000 642 1,268 11,268 -
2 110,642 10,000 100,642 587 1,157 11,157 -
3 101,229 10,000 91,229 532 1,046 11,046 -
4 91,761 10,000 81,761 477 937 10,937 -
5 82,238 10,000 72,238 421 829 10,829 -
6 72,659 10,000 62,659 366 721 10,721 -
7 63,025 10,000 53,025 309 615 10,615 -
8 53,334 10,000 43,334 253 510 10,510 -
9 43,587 10,000 33,587 196 406 10,406 -
10 33,783 10,000 23,783 139 303 10,303 -
11 23,922 10,000 13,922 81 201 10,201 -
12 14,003 10,000 4,003 23 100 10,100 -
Total 120,000 - 4,026 8,093 128,093 132,119
(Source: PersonalFN Research)
(The above scenario is shown for illustration purpose only. The rate of Returns mentioned above is an assumption. Past performance may or may not result in future.)

So here in the table, we can see that Rs 1.2 Lakh invested in a liquid fund is gradually transferred to an equity fund over a12 month period. At the end of 12 months, the Rs 1,20,000 transferred to the equity fund which we assume to have grown @ 12% p.a. would appreciate to Rs 1,28,093; while the liquid fund if it is able to yield 7% p.a. may provide a gain of Rs 4,026. So through STP you can gradually transfer a fixed amount each month from a liquid fund to an equity fund at various market levels and over time create a portfolio of equity mutual funds without putting all your money at risk at one point of time.

It is noteworthy that the Indian mutual fund industry has never stopped itself from trying or innovating strategies that can fulfil your needs as an investor, may it be while investing your money or withdrawing it to meet your financial goals. So let us now shed some light on a few of the other techniques introduced by some mutual funds that may be effective while managing your finances...


Value Averaging Investment Plan (VIP)

(Value-averaging Investment Plan is a relatively new method of investing in equity markets through a mutual fund. While in SIP the monthly investment is a fixed amount, in VIP the monthly investment varies which is calculated as per the targeted performance.)

  • (So based on the market movement...) VIP aims to Invest More when the Markets are Low and Invest Less when the Markets are High (...Therefore unlike SIP the amount invested each month is not fixed, but varies with market fluctuations.)

  • A target investment amount that has to be achieved monthly, needs to beset (...Based on the target, the value of subsequent investments will be derived from the difference between the target and the actual value of the investment.)

  • (Through a flexible investment strategy ...) VIP helps one to lower the Cost of Purchase of Units more effectively than SIP (...as the investor can take benefit of bearish phases in the market and even enjoy the benefit of power of compounding.)

  • (As the investment amount may keep varying on month on month basis...) VIP may be suitable for Investors who are ready to invest different amounts each month

  • Only a few mutual fund houses offer this facility to Investors

SIP vs. VIP in S&P BSE Sensex
Month S&P BSE
Sensex
Systematic Investment Plan Value Averaging Investment Plan
Investment
Amt. (Rs)
Units Market
Value (Rs)
Opening
Balance (Rs)
Investment
Amt. (Rs)
Units Market
Value (Rs)
15-Jan-2013 19,987 10,000 0.50 10,000 - 10,000 0.50 10,000
15-Feb-2013 19,468 10,000 0.51 19,740 9,740 10,260 0.53 20,000
15-Mar-2013 19,428 10,000 0.51 29,699 19,958 10,042 0.52 30,000
15-Apr-2013 18,358 10,000 0.54 38,064 28,348 11,652 0.63 40,000
15-May-2013 20,213 10,000 0.49 51,911 44,042 5,958 0.29 50,000
17-Jun-2013 19,326 10,000 0.52 59,632 47,806 12,194 0.63 60,000
15-Jul-2013 20,034 10,000 0.50 71,819 62,200 7,800 0.39 70,000
16-Aug-2013 18,598 10,000 0.54 76,670 64,982 15,018 0.81 80,000
16-Sep-2013 19,742 10,000 0.51 91,387 84,922 5,078 0.26 90,000
15-Oct-2013 20,548 10,000 0.49 105,114 93,670 6,330 0.31 100,000
18-Nov-2013 20,851 10,000 0.48 116,665 101,475 8,525 0.41 110,000
16-Dec-2013 20,660 10,000 0.48 125,595 108,991 11,009 0.53 120,000
15-Jan-2014 21,289 120,000 6.08 129,425 - 113,865 5.81 123,659
Gain/Loss - - - 9,425 - - - 9,794
Returns (XIRR) 14.80% - - - 15.79%
(Source: ACE MF, PersonalFN Research) (The above scenario is shown for illustration purpose only. The actual scenario may differ from the above illustration. Past performance may or may not result in future.)

Let's take an example of VIP and see how it works. Say you, as an investor, want to invest Rs 10,000 a month for a certain period of time in C.Y. 2013. If you start with Rs 10,000 in January 2013, and at the end of the first month, as we see, the market discounts, and the value of your investment becomes Rs 9,740. So now you need to invest Rs 10,260 (20,000-9,740), to make the investment worth Rs 20,000 (over a period of 2 months). Likewise, at the beginning of the 5thmonth in May 2013, if the value of your investment is Rs 44,042, then you need to invest Rs 5,958 (50,000 -44,042) only to make the amount reach the target amount of Rs 50,000in 5 months. So at the end of 12 months you would have invested Rs 120,000 by adjusting the market returns, but the actual money that is debited from your bank account is Rs 113,865. And if we compare the gains on total investment, then we can see that VIP has managed to offer slightly better returns than SIP. But do not forget that here the comparison between SIP and VIP is made for the same underlying investment or scheme and the outcome may be otherwise in actual terms for different schemes, based on their performances.)

(The other similar concept is...)


Value Averaging Transfer Plan (VTP)

(Value-averaging transfer plan works on a similar concept while flexibly transferring money from one scheme to another based on the set target...)

  • VTP is similar to VIP in terms of the concept of investment (...The difference here is that instead of a bank account, the money is transferred from a liquid fund to the selected equity fund)

  • Like VIP, VTP too helps one Invest by Flexibly Transferring More Money in the scheme when the Markets are Low and Less Money when the Markets are High

  • The targeted amount and returns of the scheme are considered for arriving at the amount of subsequent transfers (...from Liquid Fund to Equity Fund)

  • VTP may not be suitable for novice investors (...They should instead consider investing via STP if in the early stage of investing.)

(The next concept is...)


Dividend Transfer Plan (DTP)
  • Dividend Transfer Plan as a concept works similar to Dividend Reinvestment Plan (...but with a difference in structure.)

  • Through DTP one can choose to reinvest the Dividend Income either from a Debt Scheme to an Equity Scheme or from an Equity Scheme to a Debt Scheme (...The idea is to move dividend income to a different asset class.)

  • (So through DTP...)The reinvestment of the Dividend Income can be done in another scheme but from the same fund house (...Unlike dividend reinvestment where the dividend amount gets reinvested in the same scheme, through DTP the investor can instruct the fund house to reinvest the dividend amount in another scheme of his choice, as and when declared.)

(Another less popular but useful concept is...)


Systematic Withdrawal Plan (SWP)

(Systematic Withdrawal Plan is a smart way to plan for your future needs by withdrawing amounts systematically ...)

  • SWP helps Systematically Withdraw an amount of money from the invested mutual fund scheme on a regular basis (...at pre-determined intervals) to meet the ongoing expenses of the investor (...It can be an effective tool to manage one's regular expenses during retirement phase.)

  • The money withdrawn through SWP can be credited to the bank account of the investor (...as per the instruction of the investor)

  • SWP offers Fixed Withdrawal as well as Appreciation Withdrawal facility (...Through fixed withdrawal, you as an Investor can specify the amount you wish to withdraw from your investment on a monthly or quarterly basis, while under Appreciation Withdrawal you can withdraw the appreciated amount on a monthly or quarterly basis.)

  • SWP can help manage regular expenses without keeping the savings idle (...If you withdraw all your investment at one point then the withdrawn money may lie idle in your bank's savings account. But through SWP your money can keep on earning better returns by remaining invested, while you can meet your regular expenses.)

Some Key Takeaway Points!
  • Lump Sum Investment attracts market risk and can be rewarding if the long term trend of the economy is positive (...and so it is suitable for investors who are ready to take High Risk for High Return)

  • Systematic Investment Plan or SIP helps develop disciplined investment strategy (...and so it can be an effective financial planning tool.)

  • (Even with small investments...) SIPs can help you steadily build wealth over time

  • (Moreover...) SIPs provide you with the benefit of Rupee Cost Averaging and Compounding

  • Systematic Transfer Plan (...which helps transfer a certain amount from one scheme to another...) is a relatively safer investment method than Lump Sum investment and higher yielding method than SIP investment

  • Value Averaging Investment Plan helps investors invest more when the markets are low and invest less when the markets are high (...which helps lower the cost of purchase of units more effectively than SIP)

  • (Like Value Averaging Investment Plan ...) Value Averaging Transfer Plantoo helps one Invest by flexibly transferring more money from one scheme to another when the markets are low and less money when the markets are high

  • Dividend Transfer Plan can help reinvest the Dividend Income(...earned by the investor) from one scheme to another scheme (...of the same fund house)

  • Systematic Withdrawal Plan (SWP)helps systematically withdraw a fixed amount of money from the scheme (on a regular basis)to meet the ongoing expenses of the investor (...without keeping the savings idle)

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