The Debt Fund Approach To Disciplined Investing

SIPs have already gained popularity among individuals who understand the benefits of making fixed, regular investments. Choosing to invest in debt funds through SIPs can give investors an alternative to traditional debt options and help them diversify their portfolio.

KEY POINTS:

• Investing systematically over the longer term allows investors to limit their downside and reduce the variance in their returns.
• It is time for investors to replace the traditional equity, balanced and gold fund options with debt funds even while going through the SIP route.
• Options like ultra short-term and short-term debt funds can be good alternatives to recurring deposits. Considering that in a county like ours inflation generally remains high, the post-tax returns can further improve if indexation is claimed.

Although it is a well-known fact that systematic investing in the best way for investors to achieve their varied long-term investment goals, only a small section of them has taken to this disciplined approach in all earnestness. No wonder then, that every time the market turns volatile, one hears of a number of investors stopping their SIPs/not renewing them.

Considering that investors have everything to gain from this strategy in the long run, it is indeed quite a strange phenomenon. It is time that investors realised that investing systematically over the longer term allows them to limit their downside and reduce the variance in their returns.

Moreover, by investing fixed amounts at pre-determined intervals regardless of market conditions, emotion can be separated from the decision-making process. Considering that for many investors, emotions play a major part in the equity investment strategy, a disciplined approach can go a long way in making them better investors and helping them benefit from the potential of this wonderful asset class.

Indian investors have had mixed experiences from their investments through SIPs, especially in equity and equity-oriented funds. The fact that a large number of investors stop their SIPs each time the stock market spirals downwards is a testimony to their indiscretion in following an approach that propagates total discipline while investing.

Investors need to remember that too much experimentation and adhocism can spell disaster. The right way to avoid making ad hoc decisions is to follow goal-based investing. This automatically irons out indiscretions from one’s investment process. Besides, by following the right investment strategy, one can avoid making common investment mistakes.

For example, many investors make the mistake of starting SIPs with amounts that they find difficult to continue after some time. Instead, starting conservatively and gradually increasing the amount can ensure continuity. Budgeting can go a long way in ensuring this.

Similarly, many individuals invest through SIPs only for a year or so. The rationale behind this approach is to analyse the performance after the completion of one year and then take a long-term call. This is an illogical way of assessing the performance of an asset class like equity as well as the effectiveness of a powerful mechanism like SIPs. The advised way is to invest with a time commitment of a minimum period of five-seven years. In fact, the longer one follows this process, the more one benefits from ‘averaging’ and the ‘power of compounding’.

It is also important for investors to know that ‘rupee cost averaging’ doesn’t mean that they will never experience negative growth in their portfolio. While SIPs help a great deal in benefiting from ‘averaging’, the risks associated with an asset class still remain. However, the impact gets minimised to a great extent if one continues the process for a longer time period.

Most investors invest through SIPs in equity, balanced and gold funds. Despite the fact that mutual funds offer a variety of debt and debt-related products that not only have the potential to provide better returns than traditional options but also are more tax efficient, not many investors invest in them through SIPs. Considering that an ideal asset allocation strategy requires investors to diversify their portfolio across various asset classes, it is time to replace the traditional options with these funds even while investing through the SIP route.

There are options like ultra short-term and short-term debt funds that can be alternatives to recurring deposits. For example, for an investor in the highest tax bracket, the post tax returns from a recurring deposit yielding a nominal return of eight percent would be 5.60 percent. However, if the investor earns the same returns from a short-term fund, the post-tax return would be 7.20 per cent (taxed at a flat rate of 10 per cent, if indexation is not claimed). Considering that in a county like ours inflation generally remains high, the post-tax returns can further improve if indexation is claimed.

In recent times, there has been a conscious effort on the part of the MF industry as well as advisors to position debt and debt-related funds as an alternative to options like savings bank accounts, RDs and FDs. Investors, of course, have everything to gain, as these funds add a new dimension to the proven potential of the disciplined approach.

Hemant Rustagi
CEO, Wiseinvest Advisors