Why you should prefer mutual fund sip over SIP in stocks?

Why you should prefer mutual fund sip over SIP in stocks?

SIP in mutual funds offer you professional management of your money and diversification at relatively low cost.

Creating wealth is everyone’s dream and many investors invest in equity for better returns. An investor can directly invest in equities or via equity mutual funds. A lot of investors invest in equity mutual funds via systematic investment plan (SIP) route. In an SIP route, the investors put a certain sum of equal installment in a fund for a particular period.

But many investors argue that one should directly invest in equities because mutual fund companies charge 2-2.5% (expense ratio) of the assets under management, so one can save the expense ratio by directly investing in equities and can make more return. But those investors undermine the risks of directly investing in equity market. It is better, especially for retail investors, to invest in equity market via equity mutual funds because of the following reasons:

Averaging up may not be logical

Investing is about buying a stock which is available at a cheaper price, preferably at a margin of safety, than its fair value. So if the price of stock increases, the returns will be less as the fair price (target price) of the stock is now near. So, if an investor who is doing an SIP directly in equity market will keep on buying the stocks regardless of whether they are undervalued or overvalued and may not restructure his portfolio allocation. Whereas in a mutual fund, the portfolio manager sells a stock if it is closer to the perceived fair value and buy when a stock is undervalued. Besides, it is not necessary that if a stock fell dramatically is a good buy opportunity. Thus, the average dollar investing may not yield the desired result in direct equity investing. Equity investing, especially the portfolio management, is very sophisticated, a portfolio manager considers a number of parameters before investing in a stock.

Professional management of investments

The equity market is complex, it is only feasible for those who understand it and have time to follow it regularly. Whereas, equity mutual funds are managed by professional fund managers. The fund houses have research analysts and the team of experienced fund managers who take the investment decisions. It is clear from the below chart that the mutual funds have given better returns than Nifty 50.

In the figure above

Note: Top 50 equity MFs are large cap equity mutual funds selected based on their 3 years return.

Diversification with low ticket size

One of the primary advantages of investing in mutual funds is diversification at a very low amount. Say you have Rs 500 to invest, you cannot invest Rs 500 in a properly diversified portfolio if you invest directly in equity market. The best way is to invest Rs 500, is through an equity mutual fund because the portfolio manager gets the polled investments and then he will invest in equity market with proper diversification. The best advantage of mutual fund for a small investor is SIP (Systematic Investment Plan), it can invest every month in mutual funds which are hard to implement for equities.

Cost efficiency

In addition, the cost is another factor since a mutual fund portfolio is larger than an individual portfolio, small investors end up paying more account handling charges.

Tax benefits

Tax on gains is identical for equity investment and equity mutual funds, however, investments in ELSS (Equity Linked Saving Schemes) is tax deductible of Rs 1,50,000 per year under section 80C of Income Tax Act while investments in equities are not tax deductible.

Conclusion

While investing in equities one requires skills, knowledge, risk-taking capability and time to beat the market. Many investors directly invest in equity for more return, but most of them undermine its risks. Besides, if the SIP amount is small say Rs 500 or Rs 1000 per month, diversification is not possible in direct equity investments. But that can be done via SIP investment in equity mutual funds. In addition, if an investor is only concerned about the expense ratio, he can invest in direct equity mutual funds where expense ratio is less than the regular plans.

Happy Investing

Source:Moneycontrol.com