Lately, Systematic Investment Plans (SIPs) have been the most preferred mode of investing in mutual funds. The investor enjoys multiple advantages such as tax benefits, power compounding, ease of investment, etc. Through SIP, investors deposit a certain sum of money regularly with a fund house. In turn, the manager invests this sum into various financial instruments like stocks, debt instruments, etc. The fund manager chooses instruments which have a history of generating good yields in the past.
An important consideration while choosing the instrument is the rate of return or the interest rate. Stock markets and debt instruments perform differently and have varying returns. Similarly, gilt and bullion have their own and unique returns.
Through SIPs, investors contribute on a regular basis. This frequency can be weekly, fortnightly, monthly, etc. Fund managers choose instruments that can deliver the maximum returns with minimum risk.
Investors can calculate their historical SIP earnings by two ways - absolute and annualised methods. If you have begun investing recently and would like to know your potential earnings, then you can use several online calculators for this purpose. Interest rates are dependent on several factors like inflation, demand and supply, and the performance of the investee companies.
Your Net Asset Value is related to the performance of the stock market, but this relationship may or may not be direct. For example, the average rate of return of the Bombay Stock Exchange in 2017-2018 was 15%. But would your SIP yield be also 15%? Not necessarily.
Here, your return is calculated on a point to point basis. For example, on April 1, 2017, your NAV stood at Rs 25 but it rose to Rs 35 on March 31, 2018. In this case, your return was (35-25)/25 x 100= 40%. You gained 40% in this period while the stock market performed just 15%. A point to be noted here is that this SIP return calculation is applicable to annual returns.
To calculate your SIP return on an annualised basis, use this formula:
((1 + Absolute Rate of Return) ^ (365/number of days)) - 1
Now consider a case where NAV shoots up from Rs 20 to 25 in seven months or 210 days. The absolute rate of return is 25%. So what is the annualised return?
((1 + 25%) ^ (365/210)) - 1 = 47.38%
Compounded annual growth rate of return
This method is used to calculate the return on your SIP over more than one year. Many investors park their money in funds for more than one year, so this method can be used by them to determine their yields.
The formula is:
(((ending-value/beginning-value)^(1/number-of-years))-1*100
If your NAV was Rs 20, three years back and now it is Rs 40, then your CAGR would be:
(((40/20) ^ (1/3)) - 1*100 =25.99%
To find your yield when the period is in months, the formula will be:
(((ending-value/beginning-value)^(12/months))-1*100
Please note that this method gives you the mean value of your yield over the years. It does not mean that your return was 25.99% every year.
XIRR is a function where you can calculate the annualised returns or the internal rate of return for given time frame of the investment. To calculate the returns of your SIP investment using XIRR, you need to have the following data:
The writer is co–founder, Orowealth