Monday, October 19, 2015

Invest your irregular income systematically

How do you take the advantage of SIP if your income is irregular? Read on ... (My article is at the bottom of the page)

The English translation is as under:

“You had written about SIP some time ago. I think that is a good idea, but I do not have monthly income. I get some money every once in a while. Is there a way that I can benefit from the features of an SIP in that case?”
A reader asked the above question.
He was considering investing on a regular basis in equity mutual funds with an objective of creating wealth over a long period of time. At the same time, he was uncomfortable investing lump sum. He also seemed to have understood the power of compounding as well as the concept of Rupee cost averaging.
While the power of compounding helps one create wealth over long holding periods, the Rupee cost averaging brings the average purchase price down. We have already discussed these in our earlier articles.
SIP or Systematic Investment Plan allows one to invest money saved on a regular basis. This is ideal for people who get monthly salary or such regular income.  The reader, who asked the question above, seemed to have an irregular income or no income. What is the alternative for such investors?
Mutual funds offer another convenience and flexibility here. Investors having irregular income, but who want to benefit out of SIP can invest their money in liquid funds, as and when they have surplus. They can then give a standing instruction to the fund house to transfer a fixed sum of money at regular interval into an equity fund. What this does is that it helps the investor park the surplus in such a way that the money earns some returns. At the same time, since the lump sum is to be invested in a liquid fund, there is no worry about the price fluctuations. Many investors are not comfortable with the wild swings in the value of their investments, especially in the beginning.
Since the money is transferred regularly into an equity fund, this is like an SIP. The only difference between this strategy and SIP is that, in case of an SIP, the money is invested in an equity fund from a bank account. In the proposed case, the same happens from a liquid fund. The liquid fund replaces the bank account in this case for the stated purpose.
Now let us look at someone who has irregular income. Some months, there is high inflow, whereas there are some lean months. Whenever this investor has high income, he can keep investing this into a liquid fund. On a regular basis, some money is getting transferred into an equity fund, systematically.
Thus, the investment in equity fund gets the benefits of SIP, though the investor does not have regular income.
Such a strategy is known as Systematic Transfer Plan or STP.
Someone planning to opt for this strategy should first choose the equity fund into which one wants to do an SIP. The next step is to select the liquid fund from the same fund house and invest lump sum money into this liquid fund. Then, one can give a standing instruction to the fund house for the said systematic, regular transfer. You have set up your systematic transfer plan.
Yet another benefit of the great flexible and investor-friendly mutual funds.
Happy investing.
-        Amit Trivedi
The author runs Karmayog Knowledge Academy. Recently, Amit has authored a book titled “Riding the Roller Coaster – Lessons from Financial Market Cycles We Repeatedly Forget”. The views expressed are his personal opinions.

Sunday, October 11, 2015

Monday, October 5, 2015

Are mutual funds really transparent?

“Why do you say that mutual funds are transparent? I don’t agree.” Someone asked. ... 

Read on ...

The English translation of the article is as under:

“Why do you say that mutual funds are transparent? I don’t agree.” Someone asked.
“Well, why do you say so?”
“You know when I buy stocks, I know exactly what price I would get, but when I buy mutual fund units, I do not know at what NAV I will get the units. Where is the transparency?”
Good question. Someone buying something would like to know the price at which the purchase happens. If you only get to know it later, there has to be a very strong reason for the same. Still the investment vehicle that claims to be transparent, does not allow one to know the transaction price in advance.
Let us understand the reason for the same. (The discussion refers to transaction prices in case of open-ended mutual funds only).
First of all, pricing. Mutual fund units are priced once a day for declaration of NAV. So, for all open-ended mutual fund schemes, there is only one transaction price per day. This price is linked to the NAV for the day. This NAV factors the closing prices of all the securities at the end of the day, which are available after the day is over.
While the transaction is reported before a cut-off time, the NAV is calculated hours after the cut-off time. Thus, it is impossible for one to know the NAV at the time of the transaction. The only known price (or the NAV) is that of yesterday.
Why should one not be offered the previous day’s price? That brings us to the second reason, which is the principle of fairness. As we have seen earlier, a mutual fund is a collective investment scheme. There are a large number of investors participating in such a scheme. In an open-ended mutual fund scheme, on any business day, there could be some investors entering, some exiting and some others doing no transaction at all. All the investors must get a fair price and none of these should be able to profit at the cost to others.
All the security prices as of previous day have been factored in calculation of the NAV as of the previous day. Today’s prices are yet to be known.
If someone were to be offered units at yesterday’s price for a transaction done today, the one-day gin (or loss) would go to someone buying today, without even putting any money. In that case, the income investor is likely to watch the prices and do a transaction only if it is beneficial for him (or her). The loser would be the investor who has stayed invested for long.
Thus, the question is not so much about transparency, but about how the NAV is calculated and offering fair prices to all investors.
-        Amit Trivedi

The author runs Karmayog Knowledge Academy. Recently, Amit has authored a book titled “Riding the Roller Coaster – Lessons from Financial Market Cycles We Repeatedly Forget”. The views expressed are his personal opinions.