My article in Mid-day Mumbai edition today. Click on the link below to read:
http://epaper.gujaratimidday.com//epaperpdf/gmd/30112015/30112015-md-gm-10.pdf
Th English translation is as under:
Very often people ask this question, “So many financial advisors
keep talking so many good things about SIP. Is there anything negative about
it?” Come to think of it. Can there be something that is only good and without
any limitation?
Well, SIP is not without any limitations. It has two serious
limitations.
(1) That the asset prices have to go up in the long term, and
(2) During the investment period, even when the market is at a high
level the investor keeps investing (though one buys fewer units)
Well, some may argue that these limitations are not very serious or
that these are no limitations at all. Even if someone believes so, let us look
at the word “limitation” with an objective to explore if there could be
something better.
Incidentally, there is, at least in theory.
Let us look at the second of the limitations we have highlighted,
that in SIP, we keep investing even when the markets are at high levels. The
advocates of SIP would argue: Is it possible to know in advance if the markets
are high or low? And since we do not know in advance, we keep investing and the
principle of “Rupee Cost Averaging” takes over.
This principle of Rupee Cost Averaging helps us reduce the cost of
purchase. When we invest a fixed sum of money in equity mutual funds, which
have volatile NAVs, we buy more units when the NAV is low and fewer when the
NAV is high. This happens automatically since the units allotted are a function
of the amount invested divided by the prevailing NAV. This, by itself, turns
the stock market’s inherent volatility do work for the investor.
However the fact remains, even though one buys fewer units, one does
buy something even at market peaks. Let us see if at market peaks we can stop
our investments or even take some money out of the investments.
Michael Edleson, a former professor at Harvard Business School
promoted an approach that can improve upon the SIP. This approach does not keep
the investment amount constant, but changes it – either the amount is increased
or decreased. Incidentally, the investment amount is increased when the markets
are low and vice versa. This approach is popularly known as “Value averaging”.
While in case of SIP, the regular investment is kept constant, in
value averaging, the attempt is to keep the monthly (or whatever period one has
chosen) value constant. As we all know, the value of investments (NAV of an
equity mutual fund) would regularly change in line with the movement in the
market prices. When this happens, the fresh investment amount would be adjusted
such that the value is restored to a predecided level. We will continue with the discussion and also use illustrations in the next issue ...
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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.
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