Four factors to consider before stopping an SIP and exiting a mutual fund

After all, SIP is based on the dual concepts of rupee cost averaging and the power of compounding. Here is how it works.

By Vaibhav Agrawal  
Wednesday, April 18, 2018

A systematic investment plan (SIP) is a long term commitment to your financial goals. After all, SIP is based on the dual concepts of rupee cost averaging and the power of compounding. Here is how it works. Firstly, when you invest in equity funds through the SIP route, you do not try to time the market or find tops and bottoms. You acknowledge that it is practically impossible to buy at the bottom and sell at the top. Therefore, you adopt a phased approach to reduce your cost of holding over a period of time.

Secondly, the longer you stay with your SIP, the more your principal earns returns and therefore the more your returns also earn returns. Since all returns are reinvested, the power of compounding works in your favour over longer periods of time.

When is there a case to terminate your equity MF SIP?

If the rupee cost averaging and the power of compounding have to work to perfection then you need to continue your SIP for a long period. But there could be situations when you may be required to terminate the mutual fund SIP in your own larger interest. Let us look at the factors to consider...

1. When the MF SIP has been consistently underperforming

To begin with, an equity MF is a long term product. So you should not be in a hurry to terminate your SIP just because the fund has performed badly in 1 quarter. Give yourself a minimum of 2 years. Benchmark your SIP to the overall index as well as to SIPs in competing funds in the peer group. If you find your fund underperforming consistently, then it is time to move on. You can argue that you are taking a long term view on your SIP but you have already lost 2 years; which means you have lost 10% of your SIP tenure (assuming a 20 year goal). If you look at it that way; it does look substantial. Secondly, a fund that has underperformed in past continuously has a very low probability of bouncing back. Most likely it will remain a laggard in the peer group. If underperformance is consistent, shift to a fund that has the potential to outperform.

2. When the fund objective is not in sync with your objective

This happens quite often. For example, you invest in a diversified equity fund to manage your concentration risk. But the fund may decide to merge the fund with its banking fund to gain economies of scale. The problem for you is that it becomes a fund predominantly invested in banking. That is not the risk you are willing to take because that was not your objective in the first place. In this case, you should just shift your SIP to another fund. Quite often, funds tend to change the core objective of the fund in order to improve performance. Again, you need to evaluate if this shift is in sync with your objective.

3. When you are not comfortable with structural changes

The mutual fund business is a business of size; and therefore it is constantly going through a phase of consolidation. We have seen many large fund houses like Morgan Stanley, Deutsche, JP Morgan, Fidelity, Alliance etc merge out with larger domestic names. It is possible that you may not be comfortable with the new management that has taken over the funds you own. Under SEBI guidelines you are supposed to be given an exit without any obligations and you can avail of that. It may not be about performance but more about your comfort with the new group. Also, there could be changes in the fund managers, CIOs and CEOs which might reduce your comfort level with the fund house. In this case again you have a reason to shift your SIP to another fund house where you are more comfortable.

4.  Your financial goal linked to the SIP has been achieved

Quite often you tag your SIP to a specific financial goal or a milestone. For example, SIP X may be for your home loan margin, SIP Y may be for your daughter's junior college and SIP Z may be for her post-graduation. What should you do in such circumstances? The basic rule is that if you have tagged a particular SIP to a goal then at the event of reaching the milestone, just discontinue the SIP. That brings continuity and predictability to your financial plan. Once your milestone and your SIP are cancelled off against each other, you can take a fresh view on what do with the money saved and then build that into your financial plan.

The moral of the story is that SIPs must not be terminated just because markets become volatile. But in the above four instances there is a genuine case to stop your existing mutual fund SIPs.

Vaibhav Agrawal is Head of Research and ARQ at Angel Broking

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