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Know the Difference Between SIP and Mutual Fund

Asefa Hafeez
mutual-fund-vs-sip

Historically, Indians have made their investments in real estate, gold, and bank fixed deposits. However, mutual funds have arisen as an alternative and potentially superior investment option over the past two decades, as they provide the ability to generate larger returns than these traditional assets. In addition, mutual funds provide quick access, liquidity (similar to bank deposits), more clear exits (as opposed to real estate investments), and eliminate investment management risk for the individual investor because they are managed by experienced fund managers. Let’s explore mutual funds’ significance in depth.

 

 

What Are Mutual Funds?

 

A mutual funds is a collective investment instrument that invests in shares, bonds, government securities, gold, and other assets. Companies eligible to establish mutual funds establish Asset Management Companies (AMCs) or Fund Houses, which pool investor funds, market mutual funds, manage investments, and facilitate investor transactions. Mutual funds are managed by knowledgeable financial experts known as fund managers, who have experience analyzing and managing investments. According to the investment objective of the mutual fund, the fund managers invest the capital gathered from investors in stocks, bonds, and other assets. In addition to their many other obligations, fund managers are responsible for determining where and when to invest.

 

The expense ratio is the cost charged by the AMC to the investor for the management of the fund. It varies from mutual fund to mutual fund and is not fixed. On the basis of a fund’s total assets, SEBI has established a maximum expense ratio that can be charged.

 

In India, the capital markets regulator SEBI (Securities and Exchange Board of India) has fostered the mutual fund business by establishing a framework that benefits all parties involved, including investors and mutual fund sponsors. From time to time, legislation is enacted that enhances operation, encourages investment, and generates growth.

 

How Does Mutual Fund Work?

 

To comprehend how mutual funds operate, we must first comprehend NAV (Net Asset Value). The Net Asset Value (NAV) per share is the price at which investors can purchase or redeem mutual fund shares. According to the NAV, investors in mutual funds are assigned units equal to their respective investments. For instance, if you invest Rs 500 in a mutual fund with a NAV of Rs 10, you will receive (500/10), or 50 units of the fund.

 

Now, the NAV of the mutual fund fluctuates daily based on the performance of the assets in which it is invested. If a mutual fund invests in a stock whose price increases tomorrow, this will be reflected in the mutual fund’s net asset value (NAV), and vice versa. Consequently, if the NAV of the mutual fund increases by Rs 20, your 50 units, which were worth Rs 500 previously, will now be worth Rs 1,000. (500 units x Rs 20). Therefore, the performance of the mutual fund is determined by its underlying assets, which provide returns for investors.

 

Therefore, if you redeem your mutual fund units, you will receive Rs 1,000 instead of Rs 500. This 500 rupee gain is referred to as capital gain. The market value of the mutual fund portfolio fluctuates daily; accordingly, NAV also tends to fluctuate daily based on the portfolio’s worth. Therefore, this gain of Rs 500 might alternatively be a loss, depending on the movement of the NAV and the performance of the underlying assets. Due to the market-linked nature of mutual fund investments, returns are not guaranteed and are dynamic in nature.

 

The tax on mutual fund returns (capital gains) is known as the capital gains tax. When you redeem your investment, you will be subject to capital gains tax; in the case above, you will be required to pay tax on the Rs 500 you have received. Keep in mind, however, the following:

 

The capital gains tax only applies if you sell the investment, not if you hold on to it. The amount of capital gains tax will vary based on the sorts of mutual funds and investments you possess.

 

Features & Benefits of Investing in Mutual Funds

 

Every mutual fund has a Scheme Information Document readily available on the website of the fund house, which provides comprehensive information about its holdings, fund management, etc. Additionally, the portfolio investment value (NAV) is published daily on the AMC and AMFI websites so that investors can watch the mutual fund’s portfolio.

 

Mutual funds are managed by full-time, professional fund managers who have the knowledge, experience, and resources to actively purchase, sell, and manage investments. A fund manager constantly examines investments and rebalances the portfolio to achieve the scheme’s goals.

 

The adage “don’t put all your eggs in one basket” applies wonderfully to mutual funds, as investing in numerous securities and asset categories reduces risk. Unlike direct equity investment, in which your funds are invested in individual firm stocks, equity mutual funds invest in a basket of equities from several industries, thereby decreasing risk.

 

You may redeem your investments at the NAV of the day of redemption on any business or working day. Therefore, depending on the type of mutual fund in which you invested, you would get the invested monies in your bank account within one to three business days. Closed-end funds, on the other hand, enable redemptions only at the mutual fund’s maturity. Similarly, ELSS mutual funds have a three-year lock-in period.

 

Investments of up to Rs. 1.5 million in ELSS mutual funds are eligible for tax benefits under section 80C of the Income Tax Act of 1961. Long-term holdings of mutual fund assets are tax-efficient.

 

There are a variety of mutual fund investment options available to match your specific requirements. Liquid funds, for investors seeking the safety of debt and low-interest rate risk, Flexi-cap funds, for investors seeking stock diversification, and solution-oriented mutual funds, for investors seeking to invest for specific goals such as retirement or children’s education, etc.

 

Mutual funds are relatively inexpensive investment vehicles. The pooled investments of multiple participants in a mutual fund enable the fund to invest in a basket of equities and debt instruments that would otherwise be inaccessible to the average investor or need a greater investment amount. Consequently, these pooled investments give economies of scale. In exchange for decreased investor costs, such as brokerage fees, etc., minimal fund expenses are incurred.

 

Mutual fund returns are subject to market risks and returns are not guaranteed. Historically, Long-term, however, equities mutual funds have the potential to generate annual returns in excess of 10%. Additionally, debt funds might give better returns than bank deposits.

 

The Securities and Exchange Board of India, the capital market regulator in India, regulates the mutual fund business (SEBI). Consequently, mutual funds must adhere to severe laws and regulations to ensure investor protection, risk minimization, liquidity, and fair valuation.

What is SIP?

 

The Systematic Investment Plan, or SIP, is a tool that permits periodic, small investments in a mutual fund scheme. Periodically, a fixed sum is withdrawn from the investor’s bank account and invested in the mutual fund of their choosing via SIP.  Choosing a mutual fund scheme is the first step in the SIP process. Then, a predetermined, fixed amount will be invested periodically into the fund scheme. This amount enables the investor to acquire a specified number of fund units.

 

Investing in SIP over a long period of time enables you to invest during market peaks and valleys. The market for the same does not require regular monitoring. Thus, SIP removes the element of uncertainty from stock markets. In addition, after establishing the regular payment limit, frequency, and duration, one can provide separate instructions to their bank for direct transfers from the bank account into the mutual fund scheme.

 

Types of SIP

 

Different fund houses offer a variety of SIP choices based on the requirements of the investors. However, the following are the most common:

 

 

 

 

 

Features & Benefits of Investing in SIP

 

 

 

 

 

How can I initiate a SIP with mutual funds?

 

Investing in SIP begins with establishing investing goals. Due to the fact that each mutual fund is created with a certain mission, it is essential to understand what one hopes to accomplish with the investment. Once a goal has been determined, the most appropriate mutual fund can be selected.

 

Complete the Know Your Customer (KYC) procedure: KYC is required by SEBI for all investors, and without it, no one may begin investing. The KYC procedure requires the submission of basic papers, such as evidence of identity, proof of address, and pictures; this can be done online by visiting the fund house’s website and selecting the e-KYC option.

 

Once a certain plan has been selected, the SIP option is selected by filling in parameters such as the investment period, the frequency of investments, and the total investment amount.

 

 Mutual Fund Vs SIP

 

Using SIP as a method of investment, you make recurring payments to purchase mutual fund units. This encourages regular investment behaviour.

 

In SIP, an investor invests regularly and in a disciplined manner to generate wealth over time. SIP can be viewed as a superior method for achieving the financial plan and investing objectives.

 

An investor in mutual funds has the option to either reinvest earnings or returns. If an investor reinvests in the same plan instead of withdrawing, he can reap the benefits of compounding.

 

With SIP investing, you have greater freedom, as you can invest small sums on a weekly, biweekly, or monthly basis according to your convenience. Therefore, SIP is optimal for salaried individuals or those with consistent financial flows. SIPs enable you to invest in mutual funds without disrupting your current lifestyle or spending habits.

A lump-sum investment in a mutual fund plan is normally possible for those with spare funds.

 

Investing in SIP allows you to benefit from cost averaging. This means that you can reduce your overall purchase cost by purchasing more units when the market is down and fewer units when it is high. This allows you to minimize your average purchase price.

 

In contrast, when investing with a lump payment, you end up purchasing all the units at a price that may be greater because you do not receive the benefit of averaging.

 

Frequently, investors, especially novices, are unsure about the optimal timing to enter the market. If you invest in a lump sum, there is always the question of when to buy, exposing you to periods of high volatility. With a SIP, the purchase is spread out over time, and only a portion of your investment will be exposed to greater-than-average market volatility.

 

SIP vs Mutual Fund – How They Work?

 

The Systematic Investment Plan has three phases of operation. This is how it functions;

 

To invest in mutual funds, investors must provide a mandate (permission to invest via SIPs). This can be accomplished online by selecting the “Systematic Investment Plan” option during the investment process. For the offline procedure, however, you must submit a mandate form together with your application. In addition, you must select the date (on which the fund will be invested) and the amount on the form. The mandate forms can be filed online using your MF account if completed thereafter. In the offline mode, the mandate must be delivered to the office of the mutual fund firm, Karvy, or CAMS.

 

When you provide a mandate, the fund house automatically deducts the specified Investment amount from your bank account using a standing instruction. The amount is then transmitted via ECS to a mutual fund scheme for investment. Likewise, successive investment amounts will be automatically deducted at the Systematic Investment Plan period you specify. Consequently, you will not have to worry about missing any payments.

 

The sum deducted from your bank account is used to acquire mutual fund units. In addition, you are granted MF units at the closing NAV on the day of the money transfer or check realization. By way of illustration, let us comprehend how it functions.

Suppose you initiate an Rs. 1,000 Systematic Investment Plan on the fifth of a certain month. Then, on the 5th of every month, Rs. 1000 will be automatically deducted from your nominated bank account and used to purchase units of the MF. In addition, the MF units will be purchased at the NAV at the day’s end.

 

You will receive mutual fund units with each payment, which will be deposited into your mutual fund account. Indicating “How Much” and “How Often” you would invest in a mutual fund scheme is equivalent to utilizing a Systematic Investment Plan.

 

FAQs

 

SIP is just a way for investing in a mutual fund plan. SIP is not an investment product like a fixed deposit, gold, or mutual fund. Consequently, the safety of a SIP will rely on the programme in which you invest.

 

You may terminate your SIP account at any time. To terminate the SIP, simply visit the investment platform through which you are investing and follow the instructions.

 

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