SIP and Top-up SIP

Investment is one of the most simple and yet confusing need of our life. When we think investment, we start assuming making super abnormal return overnight or to become rich by investing for couple of years. 

Thankfully, we Indian understand patience is key ingredient of creating wealth, our parents and grand parents use to save bigger percentage of earning and kept investing in limited popular options available to them, mostly bank or post office deposits. They did for many years and with lot of patience. 

Unfortunately, our generation has no such good term deposit rates offered by banks nor by any postal certificates but I am sure we still have patience to create wealth. 

Yes patience is a key to investment, it gives your investment a good time to accumulate, deliver power of compounding and provide chances to take benefit out of market volatility. 

Systematic Investment Plan (now onward SIP) is a simple investment tool where we keep investing a small amount monthly (or any other frequency but monthly is most popular method) over long period of time.

Lets understand this by example, if Mr X invest Rs 10000 monthly SIP for 20 years and if return expected to be 10% , his accumulated wealth at the end of 20th year will 76 lakh (invested Rs 24 lakh over the period). 

Similarly his friend Mr Y also did sip of Rs 10000 but kept investing for additional 5 years and ended his sip after 25 year. With similar expected rate of return (10%), Mr Y will have corpus of Rs 1.33 Crore at the end of 25th year. 

So just by adding another 5 year, his wealth is increased by 57 lakh. 

In simple words, this magic is called power of compounding. 

SIP has additional benefits apart from compounding. 

SIP can be done with any asset class Equity, Hybrid (mix of Equity and Fixed Income), Gold or Fixed Income but most popular is Equity and Hybrid fund SIP. 

SIP actually debit a specific amount from your account and buy units of fund as per prevailing market rate. This rate is called Net Asset Value (NAV). NAV can go up and down depending upon underlying assets in fund. So any point of time your fund valuation is nothing but multiple of current NAV and accumulated units. 

SIP done over long period of time actually goes through multiple market phases. Most of the time Equity market is volatile. So when equity market goes down, your Equity fund SIP will be buying funds at NAV meaning more accumulating more number of units. We can safely say, during volatile market SIP investors accumulate more units by just keep running their SIPs. 

We can also create additional wealth for us by just taking few additional steps. We can start a Top-up SIP than a traditional SIP.

Top-up SIP is a SIP where you customise increase of SIP amount (with some specific percentage or fixed amount) in future at specific intervals (may be annually) considering increase in your saving and income rate of future. 

So Mr X can start sip of Rs 10000 and keep increasing 8% additional SIP amount every year by just starting Top-up SIP in place of traditional SIP. 

Most of fund houses offer SIPs which can be paused and cancelled at any point of time without any additional cost. This make it more simple and friendly tool for all of us. 

Happy Investing !

What is diversified portfolio and how to create it

What are basics of creating portfolio and why to add so many different kind of asset classes in our portfolio?

These are the few questions we ask to our advisors. 

Let me try to explain this. Our idea is to create portfolio with two basic objectives. First to create wealth or in layman terms a good return and second objective is to reduce risk of negative or low returns. 

Financial basics says, if you chase higher return, there is always higher amount of risk associated with it, we measure these risk for equity assets in terms standard deviation. 

Every asset class has there own cycle of performance, meaning different asset classes have different cycle of good and poor performance. 

When we add these 2 fundamentals in our consideration, then logical way to create portfolio of assets in such a way that at any point of time one or more asset class should deliver good return while may be one or more assets might have delivered bad returns. By doing this we assure lesser volatility in our portfolio. 

Now question is how we know, is my portfolio have properly diverse asset class or not? 

Actually it is simple, we have create portfolio of low correlated assets. Correlation is mathematical number ranging from -1 to +1 which explains relationship between two asset class. Where +1 indicate the two assets are of similar kind and having exactly similar cycle of performance and -1 correlation explains they are of exactly opposite cycle of returns. 

In practical investment world, we do not find any two asset of perfect +1 or -1 correlations. All assets have correlation between these two numbers. Our idea of creating portfolio is to create mix of low correlated asset classes. 

If we look into correlation of share prices of stock, returns of index funds and of equity mutual fund, they will be closer to +1 correlation so they are not diversified asset class. 

While in other hand Equity assets (equity mutual fund, shares, index funds, etc) and Fixed Income assets (like fixed income mutual funds,  corporate bonds, term deposits etc) is of low correlated and ideal mix to create portfolio. 

Ideally, we should hold mix of Equity,  Fixed Income and Gold in our portfolio. We can diversify further by adding International equity funds in portfolio. 

Percentages of these mix should be different for different age groups and their financial requirements. If investor is of 30s or 40s of age group should have higher equity (may be 50 to 70%) and can have 20 to 40% Fixed income asset and approximately 10% gold). Where investors of 50s age group and he is in earning phase can reduce equity to 30 or 40%. In the retirement age, there should be negligible equity exposure and investment should be kept in low volatility assets. 

These are all indicative examples, they may or may not fit to your portfolio. Please take help of advisor to find your optimal mix.