Mutual Fund industry shows us rosy picture of Systematic Withdrawal Plan SWP feature. However, if you don’t know how it works, then it is most dangerous for you.
A lot of people often view the growth of an asset as being linear. In theory, this seems great. However, in reality, the path of equity is full of ups and downs. Even the path of debt funds is full of ups and downs, as these funds are susceptible to interest rate risk (especially if the fund is investing in long-term securities).
Systematic Withdrawal Plan SWP – Dangerous concept of Mutual Funds
Recently one of my clients shared an Instagram post in which an individual claimed to be a CFA with approximately 305,000 followers. He claimed that SWP is more powerful than SIP !!
As per his explanation, the concept is straightforward. Invest Rs.20,000 monthly for 20 years. He projected a 12% return on investment, resulting in a final value of approximately Rs.2 Cr. Furthermore, he recommends withdrawing Rs.1,50,000 monthly, equivalent to Rs.18,00,000 annually, for the subsequent 20 years. Following two decades, despite withdrawing a total of around Rs.3.4 Cr, the investor still retains Rs.7 Cr! It certainly catches the eye, doesn’t it?
The table as per his investment and withdrawal assumption looks like the world’s EIGHTH wonder.
| Year | Investmnet (-ve)/Withdrawal (+ve) | Accumulation |
| 1 | -240000 | 253650 |
| 2 | -240000 | 539469 |
| 3 | -240000 | 861538 |
| 4 | -240000 | 1224452 |
| 5 | -240000 | 1633393 |
| 6 | -240000 | 2094199 |
| 7 | -240000 | 2613445 |
| 8 | -240000 | 3198546 |
| 9 | -240000 | 3857852 |
| 10 | -240000 | 4600774 |
| 11 | -240000 | 5437917 |
| 12 | -240000 | 6381231 |
| 13 | -240000 | 7444181 |
| 14 | -240000 | 8641940 |
| 15 | -240000 | 9991604 |
| 16 | -240000 | 11512439 |
| 17 | -240000 | 13226155 |
| 18 | -240000 | 15157213 |
| 19 | -240000 | 17333177 |
| 20 | -240000 | 19785107 |
| 21 | 150000 | 22400000 |
| 22 | 150000 | 23072000 |
| 23 | 150000 | 23824640 |
| 24 | 150000 | 24667597 |
| 25 | 150000 | 25611708 |
| 26 | 150000 | 26669113 |
| 27 | 150000 | 27853407 |
| 28 | 150000 | 29179816 |
| 29 | 150000 | 30665394 |
| 30 | 150000 | 32329241 |
| 31 | 150000 | 34192750 |
| 32 | 150000 | 36279880 |
| 33 | 150000 | 38617466 |
| 34 | 150000 | 41235561 |
| 35 | 150000 | 44167829 |
| 36 | 150000 | 47451968 |
| 37 | 150000 | 51130204 |
| 38 | 150000 | 55249829 |
| 39 | 150000 | 59863808 |
| 40 | 150000 | 65031465 |
| 41 | 0 | 72835241 |
It is important to observe that he projected a 12% return consistently over the 40-year period, comprising 20 years of investing and 20 years of withdrawing funds. This indicates his recommendation for investing solely in equities, without taking into account asset allocation, inflation, or strategies for managing the risk associated with the sequence of returns. (refer to my articles on this “How SEQUENCE RETURNS RISK may KILL your retirement life? and “Bond Yield Vs Returns – How does it impact debt fund returns?“.
How practical is this concept in reality? To understand this, I have analyzed the Nifty 50 TRI data from the past 20 years in order to comprehend this concept. This amounts to approximately 4964 daily data points. The reason for choosing the Nifty 50 TRI is that, in the Instagram post mentioned above, a 12% return was assumed. Therefore, to ensure that the investment is perceived as low risky, I have taken into account the Nifty 50 TRI.
Prior to delving into the details, let us analyze the trajectory of a monthly Systematic Investment Plan (SIP) amounting to Rs.20,000 over a span of 20 years. The SIP date has been set as the 10th of each month, with the next available day being considered in cases where the 10th day falls on a non-trading day.
You have observed that the amount mentioned by that individual is nearly identical (Rs.2 Cr). Nevertheless, the progress over the course of these two decades has been quite turbulent. Upon closer examination, the decrease in value during the Covid crash is readily apparent.
Let’s proceed to the withdrawal phase. I will be analyzing the same 20 years of data for Nifty 50 TRI. I will assume an investment of Rs.1,99,66,439 (accumulated through monthly SIP of Rs.20,000 for 20 years) and a withdrawal of Rs.1,50,000 on the 10th of every month. According to the example provided, the final value after the withdrawal of Rs.1,50,000 a month for the next 20 years is Rs.7 Cr, assuming 12% returns throughout the withdrawal phase. However, a reality check may surprise you all.
It has been observed that when Nifty 50 TRI is taken into account for SWP, the final value after 20 years is approximately Rs.2.5 Cr, not Rs.7 Cr as stated in the Instagram post. This is due to the “Sequence of Returns Risk”, a factor that many financial experts tend to overlook or disregard. This is mainly because they are either unaware of it or they choose to present a more optimistic view.
Market-linked products carry a certain level of risk, whether they are related to equity or debt. Despite this, we tend to base our assumptions on past returns of around 12%, projecting the same for the future and planning our withdrawals accordingly. It is important to highlight the example of the Instagram post, where an individual planned to withdraw Rs.18,00,000 from a Rs.2 Cr corpus. This translates to a withdrawal rate of 9%, while the expected returns were 12%. However, the actual values ended up being significantly lower than initially anticipated.
Conclusion -Conclusions can be inferred from the aforementioned example, which is why I am asserting that SWP from market-linked instruments poses a significant risk to investors.
- It is important to remember that when contemplating a systematic withdrawal plan (SWP) that includes a combination of equity and debt, each asset class carries its own set of risks. If the rate at which you withdraw funds exceeds the returns generated by your assets, you may find yourself dipping into the principal amount, resulting in your funds depleting sooner than anticipated.
- Typically, in these instances, the effect of inflation is often disregarded in order to emphasize the large figures. While Rs.1,50,000 may seem substantial in today’s context, its value after 20 years, assuming a 6% inflation rate, may only be around Rs.45,000 in today’s terms.
- Also, for the next 20 years, he assumed the same Rs.1,50,000 withdrawal by ignoring inflation.
- The 20-year journey through the accumulation phase in equity followed by another 20 years in the distribution phase is far from being smooth. It is characterized by numerous fluctuations. The mental preparedness required to navigate through these ups and downs is often overlooked by financial experts.
- The most precarious aspect of these assumptions is the dependence on a single asset class. There is no emphasis on asset allocation, risk management, or preparing for the worst. Their primary goal is to present a positive image of the stock market and encourage investment.
- Most individuals who promote SWP in such a positive light are either distributors themselves or have a financial stake in your long-term investment with them. Therefore, SWP is most beneficial for intermediaries to earn substantial commissions from your investment over time, rather than for your own benefit.
Proceed with caution when choosing who to follow on social media. Conduct your own risk assessment and avoid blindly trusting anyone, including myself.
