What you need to know before starting a mutual fund SIP

The mutual fund industry has done a mighty propaganda job of 'educating' investors about 'systematic investing'. So much so that many investors believe (not just new ones) that SIP is a financial instrument in of itself!

1. SIP is not different from lump sum when you invest

Every time you make a mutual fund purchase, you buy units equivalent to the value per unit of the amount you purchase. That is,

NAV on date of purchase x units allocated = purchase amount.

In a lump sum investment, you buy once. In an SIP you buy again and again.

SIP = periodic lump sum investing.

Each mutual fund unit is unique.

2. SIP is  different from lump sum when you want to redeem

Many think that a sip investment is tax-free after 1 year! If the fund was an equity fund, the first SIP instalment alone will be tax-free after 1 year (as per current rules). The second instalment will be tax-free one month later and so on.

Starting an SIP in an arbitrage fund for recurring goals may not be a terrible idea (not a recommendation), but don't assume after one year all the gains are tax-free! Especially if you are in 10% tax slab!

Exit load of the scheme will also apply to each unit individually.

3. A  3-year ELSS SIP cannot be redeemed after 3 years!

If you would like to start an SIP in an ELSS fund from April, remember that each instalment will be locked in for 3 years.

4. Mutual funds are not insurance policies

Thanks to the propaganda, we have people stating, "I would like to start an SIP for next 25 years. Please suggest some funds".

This is not an insurance policy where you pay premiums for a set number of years, at the end of which there is a maturity value. If you blindly keep investing in the same fund, returns could well be sub-optimal, if not abysmal. Read more: Analysis: 10-year Lump sum vs 10-year SIP returns and How to Review Your Mutual Fund SIPs.

So after starting an SIP, it is important to know when to stop it!

5. Mutual funds are not money back policies!

When you make a mutual investment, you buy units as shown above. When you want to exit the investment, you are selling the units you hold at the current NAV of the fund.

current NAV x units = value you get.

This value may or many not be higher than the total amount that you have invested! There is no concept of 'getting your money' back with mutual funds. Or in other words, returns are not guaranteed!

6. Returns are not guaranteed!

Many investors tend to have an 'it can't happen to me' tendency when the volatile nature of equity markets are pointed out - 'but my goals are decades away!' They argue. Well, time flies! Warning! A long-term financial goal will soon become a short-term financial goal!

We all hope that the Indian economy will grow and we can participate and profit from it, but as Mr. R Balakrishnan said, "equity will give you returns, but not when you need it!"! Active risk management is essential for equity investing.

Equity investing is not a feel-good movie where there is a climax and everything turns out okay in the end.

7. SIPs do not minimise risk!

I have said this before, but it is necessary to repeat. SIPs only average the entry point of the next installment - sometimes at lower NAV or sometimes at higher NAV. The total amount invested is subjected to the full volatility of the market. Here are a few examples.

Analysis: My Mutual Fund Investing Journey

Journey of a Mutual Fund SIP: HDFC Top 200

Mutual Fund SIP XIRR Tracker

8. Do not SIP till the 'end'!

If your goal is say, 15 years away, do not continue your SIPs for 15 years! That can be disastrous. I would recommend having an asset allocation plan for the next 15 years in mind and gradually taper equity allocation. For example, those who have started invested in equity early in life, say about 60-70% can gradually taper it down to 30-40% in the last decade before retirement. For other goals, this has to be tapered to 0%. However, doing this will affect the investment amount. So you can use this tool to have an asset allocation plan and taper Financial Goal Planner with Flexible Asset Allocation

Have an exit strategy in place!

9. Start an SIP only if you must! It is not necessary to do so!

The propaganda bandwagon (fuelled from the expense ratio of existing mutual fund investors in the name of 'investor awareness expenses') has made investor believe that filling a form and setting up a ECS mandate with a bank makes investors disciplined. It is a fancy way of saying, I need regular income from the investors investment. Stop for a moment and think why  AMCs make it difficult to stop a SIP!

In this day and age, there is absolutely no need to start a SIP! It takes about  45 seconds for a person like low-tech person like to make a mutual fund investment each month. Manual monthly investing takes discipline. Timing the market takes greater discipline. An automated SIP investment has nothing to do with discipline!

If you do want to start an SIP, set it up only for about 3 years. Review its performance and either restart in the same fund (the AMC will nag you with reminders) or in another fund ruthlessly.

10. Same applies to an STP!

There is no need to start an STP from a debt fund to equity to gradually invest a lump sum. The AMC wants to lock-in on your lump sum in a debt fund. Manual purchases 2/3 times from an SB account to the fund you want is all that is required. Read more: How to invest a lump sum in an equity mutual fund?

11. Learn about portfolio rebalancing

How to Rebalance Your Investment Portfolio

Register for the Hyderabad DIY Investor Workshop Nov 27th 2016

Check out the latest mutual fund returns listing


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12 thoughts on “What you need to know before starting a mutual fund SIP

  1. Rajesh Subhankar

    Again got confused. Every sip in equity mf will qualify for ltcg tax only after one year from the date of purchase of that particular sip? SBI Mf customer care convinced me that one year will be calculated from first sip date only. All successive sip will be tax free post one year by above calculation.

    1. freefincal

      Sorry to say that is nonsense. Each mf unit is unique. Exit load, tax rules and lock-in (if nay) applies to it independently.

    2. Srinivas

      Please understand that marketing is different and operations is different (unfortunately). If you ask a marketing person that whether it will fetch you moon he/she will assure you moon and also stars in bonus.

      I would recommend getting all the assurances in written (an email will do) and then reconfirming that with someone knowledgeable.
      Sorry for feeling deceived, but it happens with everyone.

  2. Renga

    Dear Pattu Sir,

    A bit of off the topic, the http link for Mr R.Balakrishnan's ""farm website"" in below link is not working.

    Wondering if you know the actual link, just interest to see what is in it..... 🙂

  3. Anup Kulkarni

    Dear Pattu Sir,

    Very Nice Article. I am reading your blog from last 2 weeks and day night just read...read and read your old articles.

    Que: Out of your 8 MF's how many mutual funds you are investing as SIP ?


    Invested lumpsum in Franklin high growth companies fund direct.Invested since 1 yr.NAV not falling.But also not going up.Agree,market also choppy.But what to do in such scenario.

  5. Anand Vaidya

    After experimenting with SIPs and manually investing in Direct MF for over a year now, I totally agree with you. I watch Nifty 500 and when it drops below certain number, I invest a small sum manually by logging into MF websites. It takes all of 2-3 minutes.

    Most MFs nowadays allow online start and stop of SIPs. Atleast I had zero pain with Birla Sunlife, Franklin, HDFC etc. Only IDBI MF insists on paper work.

  6. Raj Mehta

    There are few writeups that describe SIP in such simple and understandable manner. You have cleared many doubts I had about systematic investments. Great writeup. Hope to read more such blogs on investments and returns.

  7. Raj Mehta

    One thing that you need to remember is that SIP is not different from lump sum at the time of investment. The only difference is that in a lump sum investment, you buy just once. But in the case of an SIP, you can buy again and again. So, the latter can be regarded as periodic lump sum investing. You won't be able to redeem a 3-year ELSS SIP after 3 years.


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