You may have often heard the term SIP being used in association with mutual funds. Before we delve into what SIPs are, it helps to understand the nature of mutual funds.
Mutual funds are one of the key elements of any financial portfolio and ensure much-needed diversification. If you are someone who doesn’t intend to trade in stocks directly, you could invest your money in mutual funds.
A mutual fund is a pool of investors’ wealth which is then directed into either debt or equity markets, based on the fund’s theme. Different mutual funds have different investment ideas and are handled by fund managers. So, there could be equity mutual funds, debt funds or even hybrid funds. There is a wide variety of mutual fund options, based on allocation of investments into various asset classes such as debt or equity, for instance and the percentage of said allocation.
Now that you know what a mutual fund is, it is time to understand how to invest in mutual funds. You could opt for a lump sum payment or you could use a systematic investment plan method or SIP in mutual fund investments.
Low entry level and disciplined investment
As the name suggests, a systematic investment plan helps you make small investments regularly over the long-term for sustained returns. The minimum amount needed for a SIP in mutual fund investment is Rs. 500 but you can invest any amount higher than that, making it appropriate for all kinds of investors. A mutual fund SIP method helps you inculcate the habit of disciplined investment.
There are two other key concepts that are associated with a mutual fund SIP investment — rupee cost averaging and compounding.
Rupee cost averaging
According to this principle, when you invest in a SIP in mutual fund, you get to buy more units when there is a drop in market prices and buy fewer when the market rises. The units are allocated on the basis of net asset value or NAV.
When you use the SIP route for mutual fund investment, the rupee cost involved in your investment gets averaged out and you don’t have to worry overly about market fluctuations. Therein lies the beauty of a SIP. Although there is market exposure in mutual funds, the SIP route ensures that the risk is minimised, thanks to rupee cost averaging.
Another feature that defines a mutual fund SIP is its compounding power. The interest/earnings earned over the principal gets reinvested and the returns also fetch you earnings. The longer your investment is, the greater the power of compounding comes into the picture. You can use SIP calculators available online to compute your earnings for a certain period of time.
A good mutual fund for SIP: How to choose
Now that you know the benefits and features of a SIP, it is time to ask which is the a good mutual fund for SIP. The answer to this question lies in identifying why you are investing and what the goal is. Say you have a long-term goal such as preparing for your child’s higher education, marriage, or a dream home, you would need to choose a mutual fund SIP that allows you to invest over the long term. A SIP to fulfill goals such as getting a home renovation done or going on a vacation would be one that offers a short-term investment horizon.
You could also look at the fund’s expense ratio before you opt for a SIP. The expense ratio is annual charges in percentage that are needed to manage or operate your investment portfolio. This can vary from fund to fund with ceilings mandated by SEBI for equity and debt schemes, and on the basis of net assets. However, expense ratio is just one aspect and you would also factor in other aspects before you choose a mutual fund to invest in.
It is important to look at the fund philosophy, investment horizon and your own goals while choosing a good mutual fund for SIP investment. Also, rather than focusing on a nice mutual fund for SIP, focus on what fund is in line with your investment principles and timeframe. There is no best, there is only what is best for you, and no two people pick the same fund. Having said that, most credible asset management companies (AMCs) or fund houses offer mutual fund schemes through SIP, so you will have choices to pick a SIP mutual fund.
What are the different types of SIPs?
This is a SIP in mutual fund investments that let you top up your investments. For instance, you may have started off with a small amount initially, say Rs 500, and now wish to increase the amount periodically, then, you can use the top-up SIP option. If you wish to increase the SIP of Rs 500 per month by another Rs 500 after six months, for example, you can do so.
In this kind of mutual fund SIP, the date at which the plan ends is not defined, and therefore your periodic investments continue till you seek to stop them. This plan helps if you have long-term investment goals and you start out early.
This kind of investment in SIP lets you set a trigger so that the SIP is redeemed, switched to another scheme or both automatically. So, with this facility, you can request a transfer of your earnings to another scheme once your returns on investment have reached a milestone or target you have in mind. This can work when you don’t want to lose lower than a set percentage of returns as well.
This mutual fund investment method allows you to either top-up or cut down your investment made periodically based on your access to cash. Even though a certain amount is set when you start this SIP, you can change the amount till up to seven days before the next instalment begins.
Investing in a mutual fund through a SIP comes with benefits such as compounded returns and rupee cost averaging. SIPs inculcate the habit of disciplined investing and are ideal for anyone interested in mutual fund investing, because of the convenience of investing periodically.