Value averaging Investment Plans (VIP) – Part I

Some days back a colleague alerted me to the existence of VIPs as being a better and smarter alternative to the Systematic Investment Plans (SIPs) offered by mutual funds. Mutual fund houses push the SIPs a lot. The benefits touted are that average investors are not adept at timing the market and therefore a rupee cost averaging approach provides a measured entry into the equity markets. The obvious benefit to the fund houses is that they lock in a steady stream of investments. Almost every interview of a asset management company official nudges investors towards the SIP method of investing. The premise being that average invstors are scared of the riskiness of investing in equity markets. I don’t feel that SIPs greatly reduce the risk in invetsing but yes, they do nudge it down a peg or two.

VIPs are considered to be an improvement to SIPs in that instead of rupee averaging, they average out the “portfolio value” such that the inflows into a VIP scheme get adjusted based on the performance of the portfolio. A target rate of return is fixed at the outset (say 15%) so is the monthly level of investment into the fund. A 15% return is the same as a sequential  increase of 1.25% in the portfolio value. So, what VIP does is that if in a month, the portfolio performance is greater than 1.25%, the 2nd month’s investment installement is reduced to the extent that 2nd month’s goal is already met. In case if the underlying drops in value in the 1st month, and the 1st month’s return is less than 1.25% then this shortfall is added to the 2nd month’s installment to make up for the loss. And so on for the subsequent months.  

So, Monthly Investment Amount = Target portfolio value – Actual portfolio value.

Investors get to specify a maximum limit on each monthly investment. Benchmark mutual fund has one such scheme in the market since mid 2009. Now, the NIFTY has climbed up from 4,000 level to 6,000 during the past 18 months. I wonder how this investment option into this scheme of theirs has fared (Benchmark S & P CNX 500 Fund) during this period. For sure, SIP option would have fared worse since inVIP, the investor can ‘choose’ to annul his monthly investment in case the market is rising like there is no tomorrow but a SIP is a series of post dated cheques signed by you. Marketing material from Benchmark suggests that every 3 year rolling period from April ’97 to April ’09 sees the VIP option beat the SIP one. Click on the picture of the table to magnify.

The VIP concept is fairly easy to understand but I am not sure it works for me, if I look at how the market has behaved in the past 18 months. If the market is to zig zag and oscillate in a bad for the next year whilst maintaing a modest upward bias, then this option will shine, I guess. I am not saying that indexing does not work in India. Many people who shun indexing aver that the Indian markets are ‘inefficient’ and that good fund managers will outperform indices consistently – which I obvisouly do not agree with. But I suspect that a DIY approach can work better for me. One good thing about the scheme run by Benchmark Fund is that does give investors an option to choose their target rate of return. If that facility was there, I am sure many investors would have chosen a target return greater than 15% and ended up straining their cash flows. That’s one dichotomy here – the marketing material from Benchmark stresses on the point that it is simple to understand – that is inserted there to win as many small ‘uns as possible. While, it may be simple to understand, it is definitely high touch for the investors. Cash outflows are not fixed and it does require active management on part of the investors. It is perhaps for this reason (customisation of monthly investment limits) that this option is not available through online share trading websites (I use Icicidirect’s). I don’t have time to run around cutting cheques or giving ECS instructions, etc so that puts me off. Certainly not on my ‘active funds’

I have been thinking of setting up two streams of investments for each of my two kids and might think of this thing there. I do not want to do any active investment management there and the horizon is definitely 10+ years. That brings me to the other important point about the VIP from Benchmark – I feel that the real value of VIP would come out when the investment is held across a couple of market cycles. A couple of bull and bear runs would make VIP stand out. The Benchmark scheme does not charge an exit load for withdrawals after a year and that to me might tempt many to actually redeem after the 12 months are up. Something like the temptation to sell a share that you are holding as soon as 12 months are up since no taxes would then apply. When I say VIP, I may not necessarily go after the Benchmark’s VIP option. I might do a DIY using an Exchange Traded Fund (ETF) using quarterly rolls instead of monthly rests. I need to work out how the schematic will work but it will most certainly be an ETF since these cost less and might post about what I decided. So, a second “installment” of VIP is in order!


About Kaushal

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