Systematic investment plans: Sipping flexibly
Jason Monteiro | 27 February 2014
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In our Cover Story “SIP Smartly” (issue dated 28 June 2012), we advised our readers not to invest through a systematic investment plan (SIP) blindly. Through an SIP an investor puts in a fixed amount of money in a mutual fund scheme of his choice every month. This has been peddled as a great investment strategy; however, there are occasions when SIP can lead to a loss of capital. A few fund companies have launched variations of SIP that diverge from the which is traditional form of SIP, based on rupee cost-averaging. These plans are designed to invest more when the market is falling and invest less, or the same initial amount, when the market goes up again. We came across seven different plans through which one can invest; but do these plans offer anything better than a traditional SIP? Let’s look at them.

Flex STP is one of the variants which is offered by fund houses like ICICI Mutual Fund and HDFC Mutual Fund. Taurus has tweaked this strategy and has named it ‘Opti SIP’. In this method, the money put into a liquid fund is systematically transferred to an equity scheme of the fund house, based on a formula that takes into account the sum of investments made and the market value of those investments. If the market value is greater than the predetermined amount multiplied by the number of instalments paid, the monthly predetermined amount is transferred; if it is less than that, you would have to put in more than the predetermined amount. In short, if the market value falls below the total investment value, you would be investing an amount to bring it at par with the investment value including the current investment.

For example, consider you have opted for Rs5,000 as your regular monthly transfer from the liquid fund to the equity fund. If the markets were on a rise for the first two months, you would have invested a total of Rs15,000 (Rs5,000x3) as the market value (MV) of the investments would not have fallen below the total investment value (IV). If at the time of the subsequent instalment, the value of the investment falls to Rs13,747 you would have had to invest Rs6,329 (Rs5,000 [monthly investment] + Rs1,329 [investment value minus market value]). See table based on actual Sensex values.

In Taurus Opti SIP, one can specify the maximum amount of investment; therefore, if one had chosen Rs6,000 as the maximum amount in the example, then the fourth, fifth and sixth instalment payable would be Rs6,000. The reason for this is that a sharp fall in the market would require a huge investment to be made, thus investors can limit their instalment amount by setting an upper limit. 

In this method, one does not reduce the value of investments as the market peaks; therefore, as traditional SIPs, you would be continuing your investment. No wonder, compared to traditional SIPs, this strategy has worked out only marginally better. We did a three-year, five-year, seven-year and 10-year rolling period analysis on the Sensex; Flex STP outperformed SIP on a majority of the occasions. But the average excess return over a normal SIP works out to around 1%. The periods when you make a loss are more or less the same, though the extent of loss is reduced.

Flexindex Plan from HDFC MF is not for novice investors. In this Plan, investors can automatically transfer their investments from select debt/liquid schemes to select equity schemes of HDFC MF at four closing BSE Sensex levels of their choice. Those new to investing would not know what would be the right Sensex level to invest. Even experienced investors would find it difficult. The validity of the scheme is just one year, after which your balance amount in the source scheme would be invested in the target scheme in six monthly instalments. One would not be able to use this strategy for regular investments spanning more than a year.

Edelweiss MF follows a similar trigger-based approach in its ‘Prepaid’ SIP. In this, the source scheme and the target scheme are both equity schemes. A switch from one to the other will be triggered each time the Nifty falls 1%, 2% or 3% from the previous Nifty closes. We are at a loss to understand what the investors would gain from this strategy. The source scheme—Edelweiss Absolute Return Fund—is touted to have low volatility even though the equity allocation ranges from 65% to 100%. Its portfolio for May 2012 had an allocation of 70% for equity.

Pramerica has come out with what it calls ‘Power Sip’. It is an investment plan under which the amount you invest each month is determined by the Sensex trailing price to earnings ratio (PE). This approach is based on the principle of mean reversion which means prices and returns eventually move back towards the mean or average. In theory, by comparing the P/E of the Sensex at the time of investing with the historical mean of the Sensex P/E, one can tell whether the Sensex is cheap or expensive depending on whether it is below or above the mean. Thus, if the PE of the Sensex is below the mean, it would be an opportune time to invest as prices may go up.

Though this approach has worked in the past, it is based on the returns of the Sensex. The actual performance of the scheme depends on the performance of the equity schemes of Pramerica. Secondly, the PE of the Sensex is determined by 30 stocks some of which may or may not be in the portfolio of the equityscheme.

In sum, the actual PE of the stocks in the portfolio may be different. Whether the Sensex is cheap or undervalued, may not necessarily mean that the stocks in the portfolio have the same valuation level. Using Sensex PE was a simple, but not quite the best, option.

Value Averaging Investment Plan (VIP) of Goldman Sachs (earlier Benchmark MF), as the name suggests, follows the value-averaging concept. The investment amount for each period considered is different, based on the following formula:

Investment amount = Target portfolio value minus Actual portfolio value

Target portfolio value is calculated based on the long-term average return which is taken as 15%. If the actual portfolio value is greater than the target portfolio value, no investment will be made. One can select an upper limit as well.

As a process, value-averaging would involve a higher rupee amount investment when markets are lower and lower amount when markets are higher. In its pure form, when the market is high, one is supposed to sell. In a comparison between VIP and SIP, VIP has done better in the three-year rolling periods shown by the fund house. Though this may be a better option, one is restricted to investing in the Goldman Sachs S&P CNX 500 Fund.

Reliance Smart STeP, has a strategy which it chooses not to disclose. Though it says that the formula has been backtested since 1980 (this is strange because there were no mutual funds then; only stocks), there is no data to assess the returns over a particular period. One can select out of five transfer plans. Each plan comes with three transfer amounts categorised as low, medium and high amounts. Based on the Sensex level and a formula that the fund house has, it decides which of the three transfer amounts would go into your chosen equity scheme.

Apart from all these variations of SIP, there are daily and weekly options of SIP as well, but it serves no meaningful purpose as, in the long run, the average purchase price works out to be more or less the same. Though some of these strategies may work, what is more important is choosing the underlying scheme. However good a strategy may be, a badly managed equity scheme will lead to poor returns.