Mutual funds offer various types of investment options such as SIP, STP, SWP, and Lumpsum. Investors can decide the type of investment options based on their requirement, time horizon and risk profiles.
SIP stands for systematic investment plan. It is a smart way to invest in mutual funds by investing a small amount at fixed frequency over a period of time. It is often called an ideal option for any investor as it helps him/her to achieve his/her financial goal. An individual can start investing in an SIP with as low as Rs 500. And he/she can choose the pre-defined frequency as weekly/ monthly/ quarterly/ semi-annually or annually.
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SIP Date (a) | SIP Amount (B) | NAV © | Units (d) | Avg Cost (b/d) |
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The above illustration indicates that when the NAV was 12, it got the more units and fewer units when the NAV was 14. This is how SIPs help investors to average out the cost of investment.
Compounding is a powerful process in investing because it allows investors to make money not just on the money invested but also on the money earned through investing.
The primary benefit of compounding is that an investor can earn returns not only on the principal amount but also gain on the returns on the principal amount, that is, earn interest on interest too. The longer the money stays invested, the more it can multiply and accrue returns from the scheme through compounding in such a way that more opportunity is gained through higher rates.
Illustration
Monthly SIP 10000
SIP Period | Total Investment | Returns | |||
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5% | 10% | 12% | 15% | ||
3 | 360,000 | 389,148 | 421,300 | 435,076 | 896,817 |
5 | 600,000 | 682,894 | 780,824 | 824,864 | 896,817 |
7 | 840,000 | 1,007,467 | 1,219,583 | 1,319,790 | 1,489,682 |
10 | 1,200,000 | 1,559,293 | 2,065,520 | 2,323,391 | 2,786,573 |
The above illustration indicates that a monthly investment of Rs 10,000 for different time periods with an assumption of different returns is possible through compounding. Hence, the magic of compounding enables investors to meet his/her financial needs and goals.
The variation in SIP such as Flexi SIP and Step-up SIP offers investors more ways to invest.
Flexi SIP: Investors can change the investment amount according to market conditions in flexi SIP. To elaborate, a lower amount can be invested when the markets are high and vice versa.
Step-up SIP: Step-up SIP, often called as top-up SIP, enables investors to increase their investment amount in SIP over a specific period of time. This is to say that the investor basically tops up her/her SIP by a certain percentage every year.
Mantra for SIP: SIP’s work best over a period of time & the best time to start an SIP is today.
Systematic Transfer Plan or STP allows investors to transfer money from one fund to another in small amounts, on a regular basis. It’s a strategy where investors can park a lumpsum amount in the safest mutual funds for e.g. liquid, ultra-short, arbitrage. They can gradually shift a fixed sum into another fund with a long-term investment objective for e.g. equity funds.
However, putting money in equities at one go is not safe. This holds true not only in today’s market but also at any time you want to invest a bigger sum in equity funds. This is where a systematic transfer plan or an STP helps.
STPs help avoid the risks arising out of market timing. STP is the best investment option when investing a lumpsum at the lowest price. However, it is not a wise choice to invest large sums of money in equity at one go. You may invest when the markets are high. It’s also hard to predict where the markets might go. Therefore, the smart investor invests the lumpsum in debt funds and sets STP to the desired equity fund. This way the investor’s money gets 8-10% returns while staying regularly invested in equity funds.
For us, the markets are always high. Ideally there is also no better time than today to invest. It’s difficult to time the markets. Therefore, whenever you want to invest a lump sum amount, consider investing in debt funds and setting up an STP. The exception is if you are taking a call (bet) on the market or certain sector for having high growth in the near future.
There Are Three Types Of STPs
SWP stands for systematic withdrawal plan, which allows investors to withdraw a fixed sum at pre-determined intervals. It allows you to withdraw the invested amount on a set date, which can either be annually, half yearly, quarterly or even monthly. Choosing an SWP option allows you to customize the cash flow as per your needs. An SWP is beneficial to those investors who require liquidity as it allows them to access their money exactly when they need it.
There are two types of withdrawal options in SWP
SWP allows investors to continue to get regular income from equity fund and to optimize the tax on LTCG (Long-term Capital Gains Tax) accrued on the amount withdrawn via SIP.
Investors can avail of the tax benefits on long-term capital gains on up to Rs 1 lakh. Investors will be liable to pay taxes only on gain over and above Rs 1 lakh.