Mutual funds are one of the most popular investment options lately. The emergence of mutual funds has enabled investors with minimal to no knowledge of share markets to enjoy good returns over time. The most significant advantage of investing in mutual funds is that they allow you to invest regardless of the situation in the market, and volatility is not a factor that should bother you. How? Read on to know more!
What exactly are mutual funds?
A mutual fund scheme is a pooled investment raised by a fund house or asset management company from various retail and institutional investors with a set of common investment objectives. The pooled investment is then invested in various financial securities whose risk potential aligns with the investment mandate of the mutual fund scheme.
Each mutual fund scheme is managed by a finance professional called the fund manager, backed by a team of analysts and market researchers who facilitate identifying investment opportunities with potential for higher returns. The main intention of all mutual fund schemes is to provide maximum returns in line with the investment mandate.
Since the fund manager and his team make decisions with regard to the portfolio allocation of a given mutual fund scheme, investors need not possess any knowledge of how the markets work, and they can invest without significant knowledge. However, they need to ensure that they invest in a mutual fund that aligns with their risk profile.
How do mutual funds benefit investors?
As mentioned earlier, the portfolio of every mutual fund scheme is constituted with securities whose risk level is in sync with the investment mandate. The mutual fund manager and his team of analysts and market researchers select every security with the sole intent of achieving the maximum returns by taking the permitted levels of risk. A significant advantage for investors with mutual funds is that they get the benefit of rupee cost averaging.
What is rupee cost averaging, and how does it help investors?
Rupee cost averaging is an advantage available for the mutual fund investors opting to invest via the systematic investment plan (SIP) route. This phenomenon alleviates the need for investors to ‘time’ the markets. This essentially means that investors can get started with their investments, or continue investing via a SIP at all times, regardless of the market condition.
When you invest or continue investing through SIPs when the markets are down, you will buy more units of a mutual fund scheme as the cost of fund units comes down when the markets fall. However, when the markets are on a bullish trend, you will purchase fewer units as the cost of fund units rises when the markets thrive. In this way, you will buy mutual fund units at different price levels.
Over time, say four to five years from the time you started your SIP, your cost of purchase of fund units will average out. You are likely to make significant profits when you redeem your fund units. This is known as the benefit of rupee cost averaging.
This advantage is not available for lump sum investors as they purchase all of their fund units at once. Therefore, if you wish to benefit from purchasing fund units at different price levels, you must consider investing in mutual funds through a SIP.
Furthermore, you must not panic when the markets go down. When there are adverse developments in the markets, it is possible that some investors make impulsive decisions, which curtails the overall profits they may enjoy in the long run. You must invest with a long-term horizon to mitigate the risk of volatility.
What to do when markets fall?
As mentioned earlier, you should not stop or pause your SIP when there is a market crash as you will lose out on the chance to average unit prices. You must continue your SIP as you will likely benefit from purchasing fund units at a lower cost.
To increase this benefit, you may even consider enhancing the ticket size of your SIP as doing so will increase the number of fund units you will purchase. The more fund units you purchase, the more you will benefit when the markets eventually recover and record their fresh peaks.
Regardless of the market condition, it would be best to assess your expenses, increase your savings and divert the same towards mutual fund investments. This would bring up the number of fund units you will purchase and you are likely to gain a more significant advantage from rupee cost averaging when markets scale. Apart from giving you the benefit of rupee cost averaging, investing via SIPs gives you many more benefits.
Other benefits of investing in mutual funds via SIP:
The first and foremost benefit of SIPs is that they are flexible. An investor can initiate, terminate or pause their SIP at any time, and the fund house has no say in this. You will not attract any penalty for terminating or pausing your SIP. However, it is not advisable to terminate or pause SIPs as doing so is certain to delay the realization of your goals.
Another advantage of investing via SIPs is that you don’t need to have a large sum of money at your disposal to get started with your investment journey. You can get started with mutual fund investments with a sum as low as Rs 100 a month. Since you invest in small amounts, you will not feel a pinch.
Furthermore, you can make your mutual fund investments via an SIP a seamless process by activating Electronic Clearing Service (ECS) on your account (even giving standing instructions would help). This would result in your banker debiting your account with a predetermined sum on predetermined dates towards investing in the mutual fund of your choice.
Investing in mutual funds via an SIP is the best option you have. SIPs also help you instill a sense of discipline over a long period as you will be forced to curtail your expenses in order to facilitate investing. Investing through SIPs is the only way you can unleash the power of rupee cost averaging and earn higher returns over time. They are also flexible and allow you to invest or redeem at any time.