Mutual Fund - MIP & SIP

by Yamini Bhaskar on Wednesday 1 September 2010, 12:32 PM | Category: Banking and Finance| View: 5244 views
 
 
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MIP


MIPs invest predominantly in debt instruments with a small portion of assets allocated to equities. The equity component provides MIPs with just the edge it needs to outperform conventional debt funds. The equity component usually varies between 5%-30% of assets.

A noteworthy feature about MIPs is the wide range of options available to investors. MIPs can be segmented based on their equity allocations; for example conservative MIPs invest 5%-15% of their corpus in equities, while moderate MIPs invest 15%-20% of their corpus in equities and the aggressive ones invest 20%-30% of their corpus in equities (the three categories should not be taken as an industry standard, they have been defined for a better understanding of how MIPs are structured). Effectively, MIPs provide investors with the opportunity to invest in line with their risk appetites.

HOW TO DECIDE
 
 
Your company has given you a superb bonus or your savings have just added up to a nice seven figure sum.  So what are you planning to do with it? You'd love to earn some money off it, except that fixed deposits barely give you any returns these days and everything else is too risky. So if you're about to hide the money under your pillow only to start dipping into it every now and then for a shopping spree, we suggest you take a look at MIPs (Monthly Income Plans). No, they are nothing like SIPs (Systematic Investment Plans).

So what are Monthly Income Plans? As Investopedia explains it, MIPs ensure you receive a stable amount of funds each month to spend, which limits the risk of over-spending. Plus, you don't land up making random withdrawals and depleting your capital. But are they monthly income?

1. They are not monthly income.

When you think of Monthly Income Plans, you think a monthly income naturally. But the name itself is quite misleading. MIPs assure returns through the payment of monthly dividends. However, this is subject to the availability of distributable surplus. So, while fund houses try their best to pay investors regularly, this is not guaranteed.  

2. They are decent short-term investments.

Say you have a sum of 'nest egg' money (that is money you have collected for a specific purpose like your wedding or a down payment on a home). You will definitely need the money in the short term. At the most you can stay invested for two or three years, not more. In this case, MIPs are not a bad option.

3. They are not risk-free.

MIPs are dependent (to some extent) on the market. Though not completely equity-driven, your money is invested in equity as well as debt. About 15 to 25% is invested in equity and the rest in debt. So while these investments are relatively safe there is no guarantee that the markets won't crash and some of your capital could bear the brunt.

4. They are better than FDs.

Fixed deposits were once upon a time touted as the best short-term investments but not anymore. MIPs outgun FDs on two counts. Firstly, the dividend from MIPs is tax-free while FD interest is taxable. Moreover, banks deduct 10 to 20% as TDS so if you are not eligible for that amount of tax, you'll have to run around for a refund. Secondly, while FDs give you about 6 to 7% returns per annum, MIPs could give you 10 to 12%. But then again, that's because of the marginally greater risk involved in equities.  

MIPs are ideal if...


  • You want to protect capital against inflation.
    When you are saving up for something like a foreign vacation or a down payment on a home etc where rates are likely to fluctuate due to inflation, MIPs are not a bad bet. They give you decent returns. Plus, you can further invest the dividend you receive protecting your capital against inflation all the while.
  • You have retired/ are planning to retire!
    MIPs are better for those who are not earning a salary and need a regular flow of income. You could use the dividend payments for personal expenses, monthly bills etc without eroding your savings


SIP

SIP works on the principle of regular investments. It is like your recurring deposit where you put in a small amount every month. It allows you to invest in a MF by making smaller periodic investments (monthly or quarterly) in place of a heavy one-time investment i.e. SIP allows you to pay 10 periodic investments of Rs 500 each in place of a one-time investment of Rs 5,000 in an MF. Thus, you can invest in an MF without altering your other financial liabilities. It is imperative to understand the concept of rupee cost averaging and the power of compounding to better appreciate the working of SIPs.

While making small investments through SIP may not seem appealing at first, it enables investors to get into the habit of saving. And over the years, it can really add up and give you handsome returns. A monthly SIP of Rs 1000 at the rate of 9% would grow to Rs 6.69 lakh in 10 years, Rs 17.83 lakh in 30 years and Rs 44.20 lakh in 40 years.

1. Discipline 

The cardinal rule of building your corpus is to stay focused, invest regularly and maintain discipline in your investing pattern. A few hundreds set aside every month will not affect your monthly disposable income. You will also find it easier to part with a few hundreds every month, rather than set aside a large sum for investing in one shot.
2. Power of compounding
Investment gurus always recommend that one must start investing early in life. One of the main reasons for doing that is the benefit of compounding. Let's explain this with an example. Person A started investing Rs 10,000 per year at the age of 30. Person B started investing the same amount every year at the age of 35. When they attained the age of 60 respectively, A had built a corpus of Rs 12.23 lakh while person B's corpus was only Rs 7.89 lakh. For this example, a rate of return of 8% compounded has been assumed. So the difference of Rs 50,000 in amount invested made a difference of more than Rs 4 lakh to their end-corpus. That difference is due to the effect of compounding. The longer the (compounding) period, the higher the returns.

Now, instead of investing Rs 10,000 each year, suppose A invested Rs 50,000 after every five years, starting at the age of 35. The total amount invested, thus remains the same -- Rs 3 lakh. However, when he is 60, his corpus will be Rs 10.43 lakh. Again, he loses the advantage of compounding in the early years.
3. Rupee cost averaging 
This is especially true for investments in equities. When you invest the same amount in a fund at regular intervals over time, you buy more units when the price is lower. Thus, you would reduce your average cost per share (or per unit) over time. This strategy is called 'rupee cost averaging'. With a sensible and long-term investment approach, rupee cost averaging can smoothen out the market's ups and downs and reduce the risks of investing in volatile markets.

People who invest through SIPs capture the lows as well as the highs of the market. In an SIP, your average cost of investing comes down since you will go through all phases of the market, bull or bear.

4. Convenience 

This is a very convenient way of investing. You have to just submit cheques along with the filled up enrolment form. The mutual fund will deposit the cheques on the requested date and credit the units to one's account and will send the confirmation for the same.
5. Other advantages

• There are no entry loads on SIP investments.
• Capital gains, wherever applicable, are taxed on a first-in, first-out basis

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