Description
The report explaining about Mutual Funds and Financial Planning.
An insight into Mutual Fund
- For a lay investor
2009
Why should you invest in Mutual Funds? Is it the right time? Are my investments safe? What returns can I expect from the scheme? Can I invest if I have small monthly savings? _____________________________________________________ All your queries will be answered in this brief document about Mutual Funds & their performance vis-à-vis other investment options.
PHASES OF HUMAN LIFE Human life can be divided into 3 Phases:
PHASE 1: EDUCATION During this phase you are not generally worried about the monetary concerns as one has the parental bank for support. PHASE 2: EARNING YEARS During the earning phase you settle down in life and one has to look after the following things: 1. 2. 3. 4. 5. Support Parents Housing Child’s Education Child’s Marriage Plan for post-retirement
And therefore this is the most critical phase of human life as one needs to take care of his/her own needs along with fulfilling the needs of one’s immediate family. PHASE 3: POST RETIREMENT In this phase, a person needs money for sustenance and sundry expenses like medical bills. He doesn’t have a job and needs to rely on his savings or investment during the earning phase to generate the required cash flow. 2|Page
WHY INVEST? A person has surplus cash and a regular source of income during the Earning Phase to facilitate continuous savings in various financial instruments in order to meet his present and future requirements. It is critical that we don’t miss out on investing during this phase by resorting to excuses like: ? ? ? “I will start from next month” “the returns are not worth it” “I don’t have the required knowledge”
If you invest Rs 1000 per month for 30 years you will be able to generate an amount of ? ? ? Rs 10 lakh @ 6% p.a. Rs 23 lakh @ 10% p.a. Rs 15 lakh @ 15% p.a.
0
5
10
15
20
30
Learning: Even a small amount invested every month over a long period can grow to a huge saving at the end of the investment tenure. So the earlier one starts investing, the easier it is to plan for the future expenditures.
Start Early
Invest Regularly
3|Page
Get Wealthy
START EARLY We will illustrate the advantage of starting early investment in small amounts with the following example. There are 2 investors namely Early investor (A) & Late investor (Z). 1. Early investor – A starts investing at an age of 25 yrs & invests for a period of 5 years and then stops. Redemption value at the end of 60 years of age = 62 Lakhs 2. Late investor – Z starts investing at the age of 30 years and continues investing for next 20 years till he reaches 50 years of age. Redemption value at the end of 60 years = 57 lakhs. We see that though Z invests for a much longer period (20 years) compared for A (5 years) the corpus generated at the retirement age is still less than what is generated for A. This is due to the effect of compounding, that starts early in the case of A compared to Z.
Age Start Investment Tenure Amount Redemption Value @ 60 yrs age Early Investor A 25 yrs Today 5 years 1000 per month At Age 60 62 lakhs
Table 1 : Investor Details
Late Investor Z 25 yrs At age 30 20 years 1000 per month At Age 60 57 lakhs
70 60 50 40 30 20 10 0 25 30 40 50 60 Early Investor (A)
Z Stops
Late Investor (Z)
A starts Investing
A Stops, Z Starts
Figure 1 : Effect of early investing
Learning: Early Investor A gains more than Late Investor Z due to starting his investments early despite continuing for a much shorter duration. 4|Page
INVEST REGULARLY It is the general belief that the best time to invest is when the market is down or at its lowest. But attempting to time the market is tough since, without the aid of a crystal ball, there's no way of telling where the market might head next. If you choose to invest a single lump sum, you run the risk of investing at the top of the market which will instantly produce a loss if share prices subsequently tumble. Although that works to your advantage if the market immediately rises, if you invest regularly instead, timing becomes far less crucial. What's more, by drip-feeding your investment you can actually do well out of market volatility using what's known as 'Rupee Cost Averaging'. So in reality it is the time that you spend in the market that matters rather than the timing. To put things into perspective, we will show an example, investing a fixed amount in the BSE Sensex annually for 25 years gives the following results:
Strategy On the worst day to buy (Highest Sensex value) On the best day to buy (Lowest Sensex value)
Figure 2: Min & Max retruns from Sensex
Return 15% p.a. 17% p.a.
The above table shows that the best strategy also doesn’t provide great returns compared to the worst strategy, when it is done over a long period of time. Therefore investing regularly over a period makes market timing quite irrelevant and therefore not worth the effort to go for market timing.
Systematic Investment Plan (SIP) A SIP allows you to invest small amounts (as small as Rs 1000) on a regular basis, generally every month. The investment time period can vary from a few months till a few years. For people with small funds it is difficult to invest at one go and have a diversified portfolio, but SIP allows one to grow one’s investment over a time period, thereby having a substantial investment at the end of the time period. This plan is also good for people with regular incomes, as they can invest the monthly savings in this way.
Learning: The returns generated by investing over a long period of time is irrespective of market timing i.e. it is safe to invest even if market is not doing very well.
5|Page
ILLUSTRATION OF A SIP The example below shows the benefit of investing at regular intervals compared to investing a lump sum at a certain point of time.
Systematic Investment Plan (SIP) Month Unit Price Amt. Invested (Rs.) (Rs.) 1 40.00 120000.00 2 36.00 3 28.00 4 44.00 5 52.00 6 40.00 Total Investment (Rs.) 120000.00 Average Price Paid 40.00 (Rs.) Total no. of units 3000.00 purchased Value of investment 120000.00 after 6 months (@40/unit)
Units Purchased 3000.00
Amt. Invested (Rs.) 20000.00 20000.00 20000.00 20000.00 20000.00 20000.00 120000.00 38.6 3109.00 124360.00
Units Purchased 500.00 555.56 714.29 454.55 384.62 500.00
Table 2: Benefits of Investing Regularly
Therefore, Percentage increase in value by investing in SIP in 6 months ???????????? ?????? ???? ?????? = ???????????? ? ???????????? × ?????? = ??. ????% ????????????
This is considering that at the end of the 6 month period the unit returns to its previous price and no appreciation has happened. Learning: Due to the impact of ‘Rupee Cost Averaging’, the regular investor owns more shares/units than the one time investor. EQUITIES: THE MOST ATTRACTIVE INVESTMENT An investor can choose to invest in the following classes of assets:
? ? ? Gold Bank FD/ NSC G-Sec ? ? ? Mutual Funds Real Estate Equities (Stock Market)
6|Page
Inflation
Gold
G-Sec
Bank FD
Equities
Figure 3 : Cumulative Annualised Returns (1980-2004) (Source: CLSA)
Learning: Equities have outperformed any other asset class over a period of time- globally as well as in India BENEFITS OF LONG TERM INVESTING Despite the myth of Sensex (Stock Market) being risky and volatile, over the last 25 periods from 1984 till 2008, Sensex has displayed positive growth with the exception of only 3 periods.
60 50 40 30 20 10 0 -10 Figure 4 : BSE Sensex 5 year CAGR (Source: MFIE)
7|Page
Learning: Over a long period of time, Equities (stock market) prove to be a safe investment option. BENFITS OF SIP (SYSTEMATIC INVESTMENT PLAN) If an investor chooses a Mutual fund which in turn invests in equities at BSE, he’ll generate good returns at the end of the investment period. For example: Investor chooses a SIP with 1000 per month for a 10 year period. Original investment = Rs. 1,20,000 (Rs 1000 p.m. X 12 months X 10 yrs) Total value of the investment at the end of 10 years = Rs. 4,25,867 ???????????? ?????? ???? ?????? ???? ?????? = ???????????? ? ???????????? × ?????? = ??????% ????????????
% CAGR Returns = 23.93%
Rs 1000 p.m SIP - 10 yrs(BSE)
600000 500000 400000 Amount 4,25,867 300000 200000 100000 0
Figure 5 : Benefits of SIP investment in BSE
The investment in the BSE Sensex via a mutual fund yields a CAGR= 23.93% which is very high compared to direct investments in a single stock or any other financial instrument. Learning: It is advisable to invest in SIP which in turn invests in Stock market.
8|Page
RISK-RETURN SPECTRUM The risk associated with various financial instruments along with their return is plotted below.
Figure 6: Risk-Return profile of different investments
Note: The above chart is illustrative in nature and has not been marked to scale. Learning: The above chart depicts that equity yields highest return among various investment options but it also represents the riskiest option. MUTUAL FUNDS VS NSE NIFTY The graph below displays the performance of some top performing mutual fund schems in comparison with the NSE Nifty in the following timr periods: ? ? ? ? 6 month absolute returns 1 year Annualised returns 3 year Annualised returns 5 Year Annualised returns
It is evident from the graph that the mutual funds have out-performed the growth of the Nifty during all the time periods considered, thereby showing that as an investment opportunity Mutual Funds schemes are a much better investment than directly investing in stock market.
9|Page
80 70 60 Birla Sun Life Equity 50 40 30 20 10 0 Super TIGER Reg HDFC Top 200 Magnum Contra Nifty
6-month
1-yr
3-yr
5-yrs
Figure 7: Comparison of returns of MF Schemes and Nifty
Learning: Many mutual fund schemes emerge as a better investment option than direct investment in the stock market. For an inexperienced investor, it is advisable to use the knowledge and experience of the Mutual Fund houses in selecting the most profitable stocks to invest in keeping the risk appetite in mind. RISK FACTORS Mutual funds and securities investments are subject to market risks and there can be no assurance or guarantee that the objectives of the Schemes will be achieved. As with any investment in securities, the NAV of the units issued under the schemes may go up or down depending on the various factors and forces affecting capital markets and money markets. Past performance of the mutual does not indicate the future performance of the mutual funds and may not necessarily provide a basis of comparison with other investments. Before investing the investors should read the offer documents of the individual Mutual Funds to better understand the risks involved in each.
10 | P a g e
REFERENCES ? ? ? ? ? ? ? www.amfiindia.com www.rediff.com/money/2005/feb/22perfin4.htm www.financialexpress.com/news/rupeecost-averaging/317149 http://www.birlasunlife.com/birlasunlife/Mutual_Fund http://www.mutualfundsindia.com/ www.bseindia.com Class notes
11 | P a g e
doc_948525293.pdf
The report explaining about Mutual Funds and Financial Planning.
An insight into Mutual Fund
- For a lay investor
2009
Why should you invest in Mutual Funds? Is it the right time? Are my investments safe? What returns can I expect from the scheme? Can I invest if I have small monthly savings? _____________________________________________________ All your queries will be answered in this brief document about Mutual Funds & their performance vis-à-vis other investment options.
PHASES OF HUMAN LIFE Human life can be divided into 3 Phases:
PHASE 1: EDUCATION During this phase you are not generally worried about the monetary concerns as one has the parental bank for support. PHASE 2: EARNING YEARS During the earning phase you settle down in life and one has to look after the following things: 1. 2. 3. 4. 5. Support Parents Housing Child’s Education Child’s Marriage Plan for post-retirement
And therefore this is the most critical phase of human life as one needs to take care of his/her own needs along with fulfilling the needs of one’s immediate family. PHASE 3: POST RETIREMENT In this phase, a person needs money for sustenance and sundry expenses like medical bills. He doesn’t have a job and needs to rely on his savings or investment during the earning phase to generate the required cash flow. 2|Page
WHY INVEST? A person has surplus cash and a regular source of income during the Earning Phase to facilitate continuous savings in various financial instruments in order to meet his present and future requirements. It is critical that we don’t miss out on investing during this phase by resorting to excuses like: ? ? ? “I will start from next month” “the returns are not worth it” “I don’t have the required knowledge”
If you invest Rs 1000 per month for 30 years you will be able to generate an amount of ? ? ? Rs 10 lakh @ 6% p.a. Rs 23 lakh @ 10% p.a. Rs 15 lakh @ 15% p.a.
0
5
10
15
20
30
Learning: Even a small amount invested every month over a long period can grow to a huge saving at the end of the investment tenure. So the earlier one starts investing, the easier it is to plan for the future expenditures.
Start Early
Invest Regularly
3|Page
Get Wealthy
START EARLY We will illustrate the advantage of starting early investment in small amounts with the following example. There are 2 investors namely Early investor (A) & Late investor (Z). 1. Early investor – A starts investing at an age of 25 yrs & invests for a period of 5 years and then stops. Redemption value at the end of 60 years of age = 62 Lakhs 2. Late investor – Z starts investing at the age of 30 years and continues investing for next 20 years till he reaches 50 years of age. Redemption value at the end of 60 years = 57 lakhs. We see that though Z invests for a much longer period (20 years) compared for A (5 years) the corpus generated at the retirement age is still less than what is generated for A. This is due to the effect of compounding, that starts early in the case of A compared to Z.
Age Start Investment Tenure Amount Redemption Value @ 60 yrs age Early Investor A 25 yrs Today 5 years 1000 per month At Age 60 62 lakhs
Table 1 : Investor Details
Late Investor Z 25 yrs At age 30 20 years 1000 per month At Age 60 57 lakhs
70 60 50 40 30 20 10 0 25 30 40 50 60 Early Investor (A)
Z Stops
Late Investor (Z)
A starts Investing
A Stops, Z Starts
Figure 1 : Effect of early investing
Learning: Early Investor A gains more than Late Investor Z due to starting his investments early despite continuing for a much shorter duration. 4|Page
INVEST REGULARLY It is the general belief that the best time to invest is when the market is down or at its lowest. But attempting to time the market is tough since, without the aid of a crystal ball, there's no way of telling where the market might head next. If you choose to invest a single lump sum, you run the risk of investing at the top of the market which will instantly produce a loss if share prices subsequently tumble. Although that works to your advantage if the market immediately rises, if you invest regularly instead, timing becomes far less crucial. What's more, by drip-feeding your investment you can actually do well out of market volatility using what's known as 'Rupee Cost Averaging'. So in reality it is the time that you spend in the market that matters rather than the timing. To put things into perspective, we will show an example, investing a fixed amount in the BSE Sensex annually for 25 years gives the following results:
Strategy On the worst day to buy (Highest Sensex value) On the best day to buy (Lowest Sensex value)
Figure 2: Min & Max retruns from Sensex
Return 15% p.a. 17% p.a.
The above table shows that the best strategy also doesn’t provide great returns compared to the worst strategy, when it is done over a long period of time. Therefore investing regularly over a period makes market timing quite irrelevant and therefore not worth the effort to go for market timing.
Systematic Investment Plan (SIP) A SIP allows you to invest small amounts (as small as Rs 1000) on a regular basis, generally every month. The investment time period can vary from a few months till a few years. For people with small funds it is difficult to invest at one go and have a diversified portfolio, but SIP allows one to grow one’s investment over a time period, thereby having a substantial investment at the end of the time period. This plan is also good for people with regular incomes, as they can invest the monthly savings in this way.
Learning: The returns generated by investing over a long period of time is irrespective of market timing i.e. it is safe to invest even if market is not doing very well.
5|Page
ILLUSTRATION OF A SIP The example below shows the benefit of investing at regular intervals compared to investing a lump sum at a certain point of time.
Systematic Investment Plan (SIP) Month Unit Price Amt. Invested (Rs.) (Rs.) 1 40.00 120000.00 2 36.00 3 28.00 4 44.00 5 52.00 6 40.00 Total Investment (Rs.) 120000.00 Average Price Paid 40.00 (Rs.) Total no. of units 3000.00 purchased Value of investment 120000.00 after 6 months (@40/unit)
Units Purchased 3000.00
Amt. Invested (Rs.) 20000.00 20000.00 20000.00 20000.00 20000.00 20000.00 120000.00 38.6 3109.00 124360.00
Units Purchased 500.00 555.56 714.29 454.55 384.62 500.00
Table 2: Benefits of Investing Regularly
Therefore, Percentage increase in value by investing in SIP in 6 months ???????????? ?????? ???? ?????? = ???????????? ? ???????????? × ?????? = ??. ????% ????????????
This is considering that at the end of the 6 month period the unit returns to its previous price and no appreciation has happened. Learning: Due to the impact of ‘Rupee Cost Averaging’, the regular investor owns more shares/units than the one time investor. EQUITIES: THE MOST ATTRACTIVE INVESTMENT An investor can choose to invest in the following classes of assets:
? ? ? Gold Bank FD/ NSC G-Sec ? ? ? Mutual Funds Real Estate Equities (Stock Market)
6|Page
Inflation
Gold
G-Sec
Bank FD
Equities
Figure 3 : Cumulative Annualised Returns (1980-2004) (Source: CLSA)
Learning: Equities have outperformed any other asset class over a period of time- globally as well as in India BENEFITS OF LONG TERM INVESTING Despite the myth of Sensex (Stock Market) being risky and volatile, over the last 25 periods from 1984 till 2008, Sensex has displayed positive growth with the exception of only 3 periods.
60 50 40 30 20 10 0 -10 Figure 4 : BSE Sensex 5 year CAGR (Source: MFIE)
7|Page
Learning: Over a long period of time, Equities (stock market) prove to be a safe investment option. BENFITS OF SIP (SYSTEMATIC INVESTMENT PLAN) If an investor chooses a Mutual fund which in turn invests in equities at BSE, he’ll generate good returns at the end of the investment period. For example: Investor chooses a SIP with 1000 per month for a 10 year period. Original investment = Rs. 1,20,000 (Rs 1000 p.m. X 12 months X 10 yrs) Total value of the investment at the end of 10 years = Rs. 4,25,867 ???????????? ?????? ???? ?????? ???? ?????? = ???????????? ? ???????????? × ?????? = ??????% ????????????
% CAGR Returns = 23.93%
Rs 1000 p.m SIP - 10 yrs(BSE)
600000 500000 400000 Amount 4,25,867 300000 200000 100000 0
Figure 5 : Benefits of SIP investment in BSE
The investment in the BSE Sensex via a mutual fund yields a CAGR= 23.93% which is very high compared to direct investments in a single stock or any other financial instrument. Learning: It is advisable to invest in SIP which in turn invests in Stock market.
8|Page
RISK-RETURN SPECTRUM The risk associated with various financial instruments along with their return is plotted below.
Figure 6: Risk-Return profile of different investments
Note: The above chart is illustrative in nature and has not been marked to scale. Learning: The above chart depicts that equity yields highest return among various investment options but it also represents the riskiest option. MUTUAL FUNDS VS NSE NIFTY The graph below displays the performance of some top performing mutual fund schems in comparison with the NSE Nifty in the following timr periods: ? ? ? ? 6 month absolute returns 1 year Annualised returns 3 year Annualised returns 5 Year Annualised returns
It is evident from the graph that the mutual funds have out-performed the growth of the Nifty during all the time periods considered, thereby showing that as an investment opportunity Mutual Funds schemes are a much better investment than directly investing in stock market.
9|Page
80 70 60 Birla Sun Life Equity 50 40 30 20 10 0 Super TIGER Reg HDFC Top 200 Magnum Contra Nifty
6-month
1-yr
3-yr
5-yrs
Figure 7: Comparison of returns of MF Schemes and Nifty
Learning: Many mutual fund schemes emerge as a better investment option than direct investment in the stock market. For an inexperienced investor, it is advisable to use the knowledge and experience of the Mutual Fund houses in selecting the most profitable stocks to invest in keeping the risk appetite in mind. RISK FACTORS Mutual funds and securities investments are subject to market risks and there can be no assurance or guarantee that the objectives of the Schemes will be achieved. As with any investment in securities, the NAV of the units issued under the schemes may go up or down depending on the various factors and forces affecting capital markets and money markets. Past performance of the mutual does not indicate the future performance of the mutual funds and may not necessarily provide a basis of comparison with other investments. Before investing the investors should read the offer documents of the individual Mutual Funds to better understand the risks involved in each.
10 | P a g e
REFERENCES ? ? ? ? ? ? ? www.amfiindia.com www.rediff.com/money/2005/feb/22perfin4.htm www.financialexpress.com/news/rupeecost-averaging/317149 http://www.birlasunlife.com/birlasunlife/Mutual_Fund http://www.mutualfundsindia.com/ www.bseindia.com Class notes
11 | P a g e
doc_948525293.pdf