Rupee cost averaging-a tool that consolidates your mutual fund investment
Last Updated : July 20, 2016, 5:06 a.m.
Any investment be it equity or mutual fund carries a fair amount of risk, which should get minimized so that you can enjoy investing for a long period of time. You can go through a series of tools to offset the risk in your investment. And one such tool is the rupee cost averaging, which is a technique that makes you to invest a fixed sum of money regularly in some investment instruments. This technique can be of great use in products like mutual funds where there is a probability of risk because of the exposure of investments into equity, considered as high-risk, high-return proposition. As the concept of rupee cost averaging is in place, you can invest in mutual funds without any fears. Let’s discuss the operation of rupee cost averaging on mutual funds in detail.
Operational Methodology
While investing a fixed sum of money regularly in mutual funds , you are likely to buy more units if the Net Asset Value ( NAV ) of the select fund is low and less units when the NAV is high. For example-When you invest Rs 2,000 in a mutual fund scheme and the NAV is Rs 25, then you can buy 80 units. Similarly, if you invest the same amount of Rs 2,000 at a time when the NAV is Rs 30, you will be buying 67 units. Also, the general principle says that the investors usually end up buying more number of units compared to one time investment mechanisms. With higher number of units, you can get more returns. So, if you invest a fixed sum of money on a regular basis, then it helps you to average the cost during the tenure of the investment. And, your returns are based on the average cost of investment and not the cost incurred on each mutual fund units, so you get better returns.
Now understand the concept of rupee cost averaging with the help of two sets of examples.
On rising unit price
Let’s see the impact of an investment of Rs 1,000 in mutual fund during the 10th of each month on average cost of investment.
Rupee cost averaging when unit price is rising
| Month | Investment Amount | Unit Price | No of units bought |
|---|---|---|---|
| 10th Jan | Rs 1,000 | Rs 25 | 40 |
| 10th Feb | Rs 1,000 | Rs 27 | 37.03 |
| 10th March | Rs 1,000 | Rs 30 | 33.33 |
| 10th April | Rs 1,000 | Rs 32 | 31.25 |
| 10th May | Rs 1,000 | Rs 35 | 28.57 |
| 10th June | Rs 1,000 | Rs 36 | 27.77 |
| Total Investment= Rs 6,000 | Average Cost=Rs 30.31 | Total units=197.95 |
On falling unit price
Let’s see the impact of an investment of Rs 1,000 in mutual fund on the 10th of each month on average cost of investment.
Rupee cost averaging when unit price is falling
| Month | Investment Amount | Unit Price | No of units bought |
|---|---|---|---|
| 10th Jan | Rs 1,000 | Rs 28 | 35.72 |
| 10th Feb | Rs 1,000 | Rs 25 | 40 |
| 10th March | Rs 1,000 | Rs 23 | 43.48 |
| 10th April | Rs 1,000 | Rs 21 | 47.61 |
| 10th May | Rs 1,000 | Rs 20 | 50 |
| 10th June | Rs 1,000 | Rs 18 | 55.55 |
| Total Investment= Rs 6,000 | Average cost=Rs 22.03 | Total units=272.36 |
From both the tables, it is clear that the average cost reduces when the unit price is falling. And therefore it allows you to make more returns on your investment. So, don’t be too concerned by the falling unit price. Instead, have a long-term investment approach to get the most out of rupee cost averaging concept.
Applicability of rupee cost averaging
If you make investment in volatile mutual funds , you will find rupee cost averaging very appealing as it can cut down the average cost per unit over time while you are buying and raise your returns during the time when you systematically withdraw the money. However, rupee cost averaging is not beneficial for all classes of investors. So, as an investor, you need to be ready to continue through the times of low-price levels.