Buy low sell high through Smart SIPs, dynamic funds

Investing is all about making profits. Investors need to buy low and sell high. The purpose of this idea is defeated during times when stock markets are expensive and high. Since the amount of Systematic Investment Plan (SIP) in a mutual fund is fixed, the mutual fund SIP keeps on buying high. As a result, your average investment cost may rise higher with each passing month that the market inches up. This problem of ‘buying high’ can be addressed in two ways. One is ‘Smart SIP’, which dynamically adjusts to market conditions every month. So, if equities are expensive, only a small portion of SIP is invested in equity funds and the rest goes into debt/fixed income schemes. The second way is by investing in a dynamic asset allocation fund, where the proportion invested in equity, equity-linked derivatives, and debt is managed actively so that investment in equity is more when prices are low but investment in equity is reduced if the market gets expensive. Dynamic asset allocation funds are offered by fund-houses. Smart SIPs are offered by fund distributors and brokerages. Which one should you choose? DNA Money helps you take an informed decision.

SIPs turning smart

Fund distributors and brokerages have tied up with specific mutual fund companies for their own version of Smart SIPs. These SIP variants, with a minimum monthly amount of Rs 5,000, aim to do the same thing – buy less of equity fund units when markets are high. Invest the rest in debt. When markets fall, buy more equity fund units. In this way, chances of getting better returns are enhanced.

For instance, FundsIndia’s ‘SmartSIP’ in association with Franklin Templeton AMC invests in an equity fund and a debt fund, from the Franklin India stable, every month. By default, the equity fund’s allocation would be 70% and the debt fund would receive 30%. However, allocation to the equity fund and the debt fund will dynamically change every month based on both market fundamentals and momentum factors. In this way, there is no disturbance to the investor’s monthly savings. There is also no need to increase the SIP amount or reduce it. Money from SIP installments is deployed in the equity and debt markets after taking into account the current market variables such as valuations, momentum, market sentiments etc.

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Wadiwala Securities also has a ‘Smart SIP’. It uses PE (Price to Earnings) ratio of index as the indicator of market valuation. When market/index are quoting at more than 19-20 times its earnings, the Smart SIP puts new money of investors into debt. Money invested in debt is waiting to be switched to equities. When market valuations are extremely high, it will switch the complete investment from equity to debt. This money will be moved back to equity when valuations turn attractive. The broking house’s website shows that this Smart SIP facility uses funds from HDFC MF.

According to Srikanth Meenakshi, co-founder and COO, FundsIndia.com, the primary advantage is that SmartSIP has the potential to return higher. “In our back-test analysis over the past 10 years, SmartSIP has given up to 2.6% higher CAGR than a regular 70:30 (equity:debt) SIP. On an average, the outperformance has been 1.6% CAGR,” he says.

From the customer’s perspective, this behaves exactly like a regular SIP – a fixed amount of money gets debited from the bank account and gets invested in a portfolio of funds. “There is no new learning or understanding required from the customer to get going with SmartSIP. All decisions regarding monthly allocation are made by experts taking into account the situation in the equity market. The monthly allocation is transparently disclosed to the investor prior to every SIP installment, including the reasoning that went into deciding the allocation,” says Meenakshi.

Dynamic funds

Dynamic Asset Allocation or Balanced Advantage Funds invest in a mix of equity, equity-related instruments and fixed income securities without any upper cap or lower limit on their exposure to such asset classes. “These funds are free to dynamically change their exposure to various asset classes from 0-100% of their total portfolio on the basis of their in-house quantitative models, which typically have underlying valuations as the variable,” says Naveen Kukreja – CEO& Co-founder, Paisabazaar.com.

These funds can also hedge their equity exposure through positions in equity derivatives to reduce the risk to their equity portfolio and qualify as equity funds for taxation purposes.

So, if you invest in a dynamic asset allocation fund, you don’t need to worry about two funds – one equity fund and a debt fund. Also, dynamic asset allocation funds are different from other hybrid funds. Other asset allocation funds like balanced funds, monthly income plans, etc, come with a pre-set percentage range of allocation for various asset classes. “These funds too can change their portfolio asset allocation depending on various market factors, but only within their pre-set asset allocation ranges determined by the Sebi’s fund categorisation regulations,” points out Kukreja.

Smart SIP vs dynamic funds

While Smart SIPs and Dynamic Asset Allocation funds aim to do the same thing, there are some differences. “The allocation of investors’ money is fully disclosed every month in a transparent manner with SmartSIP. Not so the case with dynamic funds,” says Meenakshi.

The second difference is that in case of dynamic funds, the asset allocation and investment decisions are taken by the MF management team. “In case of these SIP variants, the asset allocation decision appears to be taken by the MF distributor or brokers’ team. They rely on some in-house model to decide how much of equity and how much of debt every month. Of course, once it is decided how much goes into equity and how much goes into debt, the money will be invested in schemes with good fund managers,” says Rajesh Sharma, an investment expert.

The third difference is that though dynamic asset allocation funds are free to dynamically change their exposure to various asset classes from 0-100%, the funds rarely go for 0% equity. Technically, Smart SIPs can go much higher or much lower depending on market conditions, giving them the real power to be dynamic.

Doing dynamic asset allocation on your own

What are the problems if someone does the job of dynamically changing asset allocation on their own? It would require constant observation of changing market trends and valuations and appropriate changes to the investment portfolio. As this requires knowledge and skill-sets that most individual investors may lack, poor market interpretation and wrong decisions may increase the risk of loss and missed opportunities.

Frequent portfolio rebalancing may also increase your investment cost through exit loads and short-term capital gains tax. Thus, dynamic asset allocation funds save individual investors from the complicated task of asset allocation and help reduce the cost associated with the frequent rebalancing of the portfolio,” says Kukreja.

SPREAD YOUR RISKS

• By default FundsIndia’s SmartSIP invests 70% in equity fund and 30% in debt fund
• Dynamic asset allocation funds change their exposure to various classes from 0-100% based on quantitative models
• R Wadiwala’s Smart SIP puts new money into debt when market/index are quoting at more than 19-20 times it earnings