Recently one of my neighbors asked SIP Vs SWP Mutual Funds – Which is better in India? Should we use SIP or SWP of Mutual Funds to generate better returns?
Such inquiries are clearly shaped by purported experts who produce social media content and videos aimed at capturing our attention. These individuals are often oblivious to the risks linked to such tactics and bear no accountability for the messages they seek to promote.
Recently, I authored an article titled “Systematic Withdrawal Plan (SWP) – A Risky Concept in Mutual Funds,” in which I addressed the misinformation being disseminated by certain experts regarding SWP. In this article, I have considered the last 20 years’ Nifty 50 TRI returns and arrived at my conclusion.
However, many new investors still believe that SIP or SWP are Mutual Funds products!! Hence, thought to write about this.
SIP Vs SWP Mutual Funds – Which is better in India?
To begin, it is essential to clarify the concept of SIP. This understanding is fundamental to grasping the underlying meanings. The Mutual Fund industry has popularized the term SIP, presenting it as a product within their offerings. Consequently, many investors may either purchase it incorrectly or be misled in the process.
It is important to note that SIP stands for Systematic Investment Plan. In essence, any investment made systematically at regular intervals, not limited to mutual funds, qualifies as a SIP. This could include recurring deposits (RD), Public Provident Fund (PPF), Employees’ Provident Fund (EPF), Sukanya Samriddhi Yojana (SSY), as well as investments in ULIPs or endowment plans, in addition to mutual funds. However, it is commendable that the mutual fund industry has successfully branded this term as being specifically associated with mutual funds.
This is where the confusion started with many investors thinking that SIP EQUALS Mutual Fund product!!
What, then, is this Systematic Withdrawal Plan (SWP)? It refers to the method of systematically withdrawing a specified amount or percentage from your accumulated wealth at predetermined intervals. This can include withdrawals from various sources such as Government Bonds, Corporate Bonds (in the form of coupons or interest), interest earned from products like the Senior Citizens Savings Scheme (SCSS) or Post Office Monthly Income Scheme (MIS), certain annuity plans, and, of course, from Mutual Funds as well.
However, it is important to note that since this Systematic Withdrawal Plan (SWP) also originated from mutual funds, such as Systematic Investment Plans (SIPs), many individuals currently perceive this SWP as a mutual fund product. The credit for this perception once again goes to the mutual fund industry.
It is my hope that you now have a clear understanding of the concepts of SIP and SWP. In essence, SIP is designed for individuals who are in the accumulation phase, while SWP is intended for those who have already built a corpus and are in the distribution phase, such as retirees.
Then why does SWP look more attractive to many than SIP? Mainly because of these below reasons.
- Assuming you are investing in equity mutual funds via a Systematic Investment Plan (SIP) with an expected return of 10% and aiming for a target of Rs. 1 Crore, it is important to note that the 10% returns will be calculated on the total corpus accumulated through the SIP, rather than on the target amount of Rs. 1 Crore. Consequently, regardless of the amount you are investing, the 10% returns during the accumulation phase may appear relatively modest.
- In the context of a Systematic Withdrawal Plan (SWP), the investment is made as a single lump sum, which makes the 10% returns appear significantly larger when compared to the accumulation phase of a Systematic Investment Plan (SIP).
- Many individuals believe that systematic withdrawal plans (SWP) in equity mutual funds are less appealing when compared to other asset classes, such as real estate, which typically offers a rental yield of approximately 3% to 4%. However, they often overlook a critical factor: depending exclusively on equity mutual funds or any market-linked instruments, including long-term debt funds, can pose significant risks. Such investments may unexpectedly diminish your principal amount much sooner than anticipated. This phenomenon is known as the “sequence of returns risk.” I encourage you to refer to my post on this subject for further insights “How SEQUENCE RETURNS RISK may KILL your retirement life?” and “Bond Yield Vs Returns – How does it impact debt fund returns?“.
- Numerous advocates of Systematic Withdrawal Plans (SWP) tend to focus solely on a single asset class, particularly equities, while also presuming straightforward returns of 12% to 15%. However, depending exclusively on a single asset class, especially equities, introduces significant risk. Furthermore, many individuals who consider equities for SWP have likely never encountered a market crash and may lack the knowledge to manage their emotions during such downturns. It is essential to recognize that while investing can be immediate, the true challenge lies in risk management and behavioral control, even for seasoned investors.
- Exploring debt mutual funds, particularly long-duration bond funds, can indeed present significant risks due to their inherent volatility, which is influenced by interest rate fluctuations and other potential risks such as default or downgrade risk. Therefore, it is important not to assume that equity is the only asset class associated with risk; a thorough examination of debt mutual funds is also warranted.
Conclusion – The inquiry “SIP Vs SWP Mutual Funds – Which is better?” depends upon your specific needs. If you are in the accumulation stage, a Systematic Investment Plan (SIP) is more advantageous. Conversely, if you are focused on wealth accumulation and are in the distribution phase or seeking a steady income stream, a Systematic Withdrawal Plan (SWP) may be more suitable. The determination of which option is preferable also hinges on the asset class you select and your capacity to manage risk. It is crucial to avoid making investment decisions solely based on recent performance. Many investors mistakenly believe that a decline in the equity market will inevitably lead to a recovery if they hold their investments. However, an additional risk that can be particularly challenging and tests an investor’s patience is the “sideways” market. Therefore, it is essential to approach investment decisions with caution. Instead of accepting information at face value, take the time to understand which product aligns with your needs and how to effectively manage risk before making a decision.
