Mutual Funds: The New Age Heroes

Traditional financial instruments are slowly giving way to mutual funds that have products and features that complement them with greater efficiency.

There has been a remarkably exponential change in the way we live and work over the past decade. All around new products, services and concepts are emerging to improve the quality of our life. You can barely come across anything without the prefix ‘smart’ and it’s not just with phones. You have smart cars, smart homes, smart card and even smart watches! All these smart things are combination of machines and humans working together with connected devices to enhance efficiencies. It is no wonder that investing too is getting smart. It’s no more about saving money; it’s about smart savings which is all about investing. The work force in the 20 to 35 years age category is fast turning to mutual funds because of several factors that make them attractive. While the usual reasons of professional management, transparency, diversification, well regulated and convenience among other factors remain attractive, the digital interface has made investing in mutual funds more convenient. Additionally, the many types of mutual funds posing as an attractive substitute to traditional financial instruments are a big draw. Take for instance a liquid fund, which is a debt mutual fund that invest your money in short term market instruments such as treasury bills, government securities and call money having maturity upto 91 days and which are low risk in nature and are fast becoming an alternate to hold your short-term savings, what you would otherwise keep in a bank savings account. With guaranteed interest rates on traditional saving options like savings bank accounts, fixed deposits, PPF etc. going down each passing year and barely yielding any meaningful inflation adjusted post tax returns, people are looking for new investment options. Youngsters are smart to realise the slow pace of growth with fixed return instruments and at the same time are able to understand the risks involved when investing in mutual funds.

Many conservative investors are experimenting with debt mutual funds instead of the traditional PPF or NSC. They are trying to understand the differences in the features, investment horizons and rate of returns of debt schemes. The scheme can be accrual and/or duration based where returns are competitively less volatile than equity schemes.

There is also the advantage of liquidity when investing in debt funds like liquid (no exit load after 7 days) or overnight funds, compared to say bank deposits where one may be penalised for an early withdrawal. In mutual funds, you can withdraw your investments anytime and the money is credited to your bank account the next business day or over few business days, depending on the type of scheme. In case of liquid funds, there is scope for instant withdrawal facility up to the Rs 50,000 per day or 90% of current value of available units.

When to start investing?

1) You do not need a large amount to begin investing to make it meaningful. You can start investing with as little as Rs 500 in some mutual fund schemes

2) Automate this habit through an SIP which enables you to invest regularly and conveniently

3) Earlier one begins to invest; you give your money the time and an opportunity to compound and grow for your goals

4) Do not time the market. Stick to your investing habit and goals.

5) Well begun is half the job done. Understand how mutual funds work and if required consult a financial adviser.

Equity rules

The concept of sampling and trials is well entrenched among youngsters who once satisfied quickly increase their commitments to a product or service. The growth in online average value of transaction is encouraging, as the rub off is also there on mutual fund investments. Traditional tax-saving investment options under Section 80C have seen a dip in returns over time and there has been a rise in popularity of equity-led tax saving options like Equity Linked Saving Schemes (ELSS) from mutual funds. The ELSS is an equity-oriented mutual fund, which has a three year lock-in on investments that also qualify for tax deductions up to ₹1.5 lakh in a financial year under Section 80C.

Smart investors realise the prospects of starting early with tax savings and investments (See: Effect of Compounding). Instead of waiting for the year end for tax savings, they start from April through SIPs for the whole year. The long-term capital gains from equity-oriented schemes like ELSS are exempt from tax up to ₹1 lakh in a financial year. There are then equity funds for mid-term goals such as an international vacation 3-4 years away or a corpus to start a venture at age 40. Moreover, longer-term financial goals such as retirement or your child’s education down the line continue to find investments in equity schemes with varying risk grade to suit your risk profile and time horizon.

The most efficient way of benefiting from equity investing is through SIP, where an investor has to do is choose a good fund and smart small. Additional benefits include the flexibility to increase investments over time in line with your income, power of compounding and the benefit of rupee cost averaging making the SIP way of investing very investor friendly. Rupee cost averaging, is an approach that ensures that you buy more units in the fund when prices are low and less when they are high.

Smart moves

With better understanding of different investment products, investors are willing to invest for different expenses spanning across time horizons. They are now not willing to wait and rather borrow to realise their goals. Moreover, the renting economy has also thrown them with options where capital commitments are less. It is less expensive to travel now with cheap airfares and shared accommodation – the in-thing. Many young investors can now plan even their technology upgrades with a little bit of planning instead of going for a loan. Saving money in a liquid or short-term debt fund for less than a year not only instils the discipline to invest, it also saves one from the trap of borrowing.

Investors are able to build on down payment and are using the regular investments through SIP instead of borrowing money and paying EMIs. The reversing of EMIs to SIPs is a move that is slowly but surely catching up. Smart investors understand the value of money when it is invested (See: Time is Money) and are borrowing only when it is essential, such as when buying a house, which is an asset compared to a phone upgrade which is a depreciating asset.

The troika of SIP, STP (Systematic Transfer Plan) and SWP (Systematic Withdrawal Plan) have taken the smart moves a notch further up. SIP has been well documented as the option of investing a fixed sum in a mutual fund scheme on a regular basis like each month and works wonders towards long-term wealth creation. SWP is a smart way to plan for your future financial needs, especially cash-flow needs by withdrawing fixed amounts systematically from your existing investments to meet your expenses. Likewise, STP is a way to transfer a certain amount from one mutual scheme to invest in another scheme.

A combination of SIP, STP and SWP could work well to control your future financial goals. You could use SIP to build a corpus, use STP to protect the corpus as you approach the goal year and use SWP to utilise the funds when needed. This approach could be used for your financial goals without worrying about market fluctuations and can be tax-efficient transactions. As for choice of funds; there are several types of funds available that are suitable for financial goals as well as your risk profile. You could use a collection of funds to create a portfolio to meet each financial goal.

As an investor, you should choose a few fund houses based on their pedigree and track record, with well-documented best practices, and stick to their funds. Today, a reputed fund house can offer you solutions via its fund for all your financial goals. Just the way you rarely open multiple bank accounts across different banks, you do not need to look for too many schemes across fund houses. This practice will help you to streamline your investments in a few fund houses and also keep track of them efficiently and conveniently. All these aspects make mutual funds a smart choice and a new-age hero among today’s available financial investment options. Use them smartly to increase the chance of realising your financial goals wisely and tax-efficiently.

A Perfect Gift

There is a novel way to make the gift last a long time when you decide to gift a mutual fund. Although technically you cannot invest in other’s name as the regulations do not permit it; however, the exception is in case of minors. So, parents, grandparents and other immediate family members can invest via mutual funds in the name of minor children

But there are a few restrictions – the donor has to submit a declaration, specifying details of bank account from which payment will be made and the relationship with the minor. This will also be needed to be signed by the legal guardian of the minor. Till the child is a minor, the mutual fund account will be operated by the parent or legal guardian.

After the minor turns 18, the child will become operator of the folio. You could gift a long-term investment through SIPs for the child this way, so that they have a sizeable corpus when they turn 18 to support their education.