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5 Ways You Can Ace Investing In ELSS Funds

IndianMoney.com Research Team | Posted On Friday, March 15,2019, 03:31 PM

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5 Ways You Can Ace Investing In ELSS Funds

 

 

ELSS is a tax saving mutual fund, which invests most of the money in equity. You get the tax deduction under Section 80C of the income tax act, up to Rs 1.5 Lakhs a year. ELSS has a lock-in period of 3 years. If you fall in the highest tax slab, you can get a tax benefit up to Rs 46,800 a year on investing in ELSS.

ELSS is suitable for investors who are willing to take risk in investments. ELSS is known to perform well over the long term. It’s wise to stay invested in ELSS, even after the 3 year lock-in. Top ELSS schemes have given returns around 15-17% a year over the long term.

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5 Ways You Can Ace Investing In ELSS Funds

Pick the right ELSS Funds:

You might feel that investing in many ELSS schemes is a great idea. This is not true. An ideal mutual fund portfolio consists of just 4-6 mutual fund schemes. Invest in just 2 good ELSS schemes. It’s easy to monitor the performance of the ELSS fund.

How to pick the right ELSS Fund? Take a look at the portfolio of the ELSS scheme. Stocks in the portfolio must be compatible with risk profile.

If you are comfortable investing in large cap stocks and the ELSS scheme invests in mid cap stocks and small cap stocks, this scheme is not for you. Mid cap stocks and small cap stocks give high returns, but at high risk which is not compatible with your risk profile.

SEE ALSO:  Investing In ELSS Funds

These are some of the large cap stocks. RIL, HDFC Bank, HDFC, TCS, ITC, Kotak Bank, SBI, ICICI Bank, Maruti Suzuki, Bajaj Finance among others. These are some of the mid cap stocks. Corporation Bank, Escorts Ltd, Godrej Agrovet Ltd, Glenmark Pharma, UCO Bank among others.

1. Focus on the fruits of your effort:

Every investment needs a goal and ELSS is no different. Focus on the investment goals.  Take this example of a financial goal. Saving for your son’s education or daughter’s marriage is a financial goal. This goal needs a time frame. You need the money after 10-15 years.

ELSS is a long term investment. The time frame of 10-15 years suits the investment, if you are willing to bear risk. Invest in ELSS via SIPs instead of a lump sum. Systematic Investment Plan popularly called SIP allows you to invest small sums of money regularly, say once each day, month or fortnight in a mutual fund. You can invest just Rs 500 a month in ELSS via SIPs.

Use ELSS SIP calculator to calculate expected return from ELSS schemes. Let’s have an example:

Your son is 5 years old. You want to invest in an ELSS scheme for his college education. You have a time horizon of 12 years to get the money. If you invest just Rs 5,000 a month via SIPs in ELSS scheme for 12 years with an expected return of 12%, you will have around Rs 16 Lakhs when your son turns 18 years old. Adjusting for inflation would bring the figure down to Rs 11 Lakhs. You can use IndianMoney Investment Calculator to calculate returns on ELSS.

These Tips Should Help you Pick the Right ELSS Funds:

  • Don’t just chase the recent top performers: This is an impulsive decision made solely based on annualized returns. The returns you see are past performance of the ELSS schemes. There’s no guarantee of future performance.

Why is this so? An ELSS scheme which tops the charts today may be at the bottom tomorrow. Picking the best ELSS schemes doesn’t guarantee achieving financial goals. Analyze fund performance across multiple horizons. To get the best ELSS schemes, check consistency of returns for at least 5 years. Don’t just stop here. Check for consistency of returns and strength of the ELSS scheme during both market rallies and a slump.

  • Check risk-return of the ELSS scheme:

Higher the risk, higher the returns. Your ELSS fund must generate higher returns for every extra unit of risk you bear. Check risk-return framework by keeping an eye on the Sharpe Ratio.

Check Sharpe Ratio from the fact sheet of the Mutual Fund.  Among mutual funds of similar risk, the one with highest Sharpe Ratio means every additional unit of risk you bear, yields higher returns.

  • Composition of the fund:

Among ELSS funds, there are some of them heavily invested in small-cap stocks. These stocks have very high risk. This makes the ELSS scheme very risky.  If you are not comfortable with ELSS schemes with high composition of small-cap stocks, avoid them. Check risk tolerance before investing in ELSS scheme.

If you are not comfortable with risk and want to invest in ELSS schemes, choose schemes with high composition of large-cap stocks. This helps stay invested in ELSS at lower risk.

Opt for Reputed AMCs:

Invest in ELSS of top and reputed AMCs. They have good fund managers and can get higher returns. Pick 10-12 ELSS schemes from top AMCs with proven track record across 5 years.

The ELSS scheme must have large assets under management (AUMs). Opt for growth option of the ELSS scheme, rather than dividend option. The ELSS dividend option gives dividends before the 3 year lock-in period, and you lose out on compounding returns. Take the help of your financial advisor who recommends sticking to ELSS funds for the long term.

Understand the Benefits of ELSS:

An ELSS is an excellent investment for youth who have just started working. They earn high returns and save taxes. A rupee saved in tax is a rupee earned. This is double bonanza, not to forget the higher returns of the ELSS.

Young people who don’t have dependents can bear risk. They can easily stay invested for a long time. This helps enjoy higher returns. ELSS funds may give returns as high as 10-15% a year. This is higher than FDs, PPF, NSC, SCSS and most other investments.

Do remember that ELSS has a high equity component, which makes it a risky investment.  ELSS is a great investment for retirement and stay invested in ELSS till retirement (Forget the lock-in period of 3 years) to get a huge corpus at retirement. 

2. NAV is just a number:

Net Asset Value or NAV is the value of a mutual fund scheme’s assets minus the liabilities per unit. This is the price you pay for a unit of the ELSS scheme. This is also the price at which you sell the units of the ELSS scheme. Exit load is chargeable as a percentage of the NAV.

3. Why NAV is just a number?  

Let’s say you invest Rs 10,000 in an ELSS scheme of NAV of Rs 200. You get 50 units. This is (10,000 / 200). Let’s say the NAV of an ELSS scheme is Rs 100 and you purchase 100 units. The number of units is different but the returns are the same. Let’s say both these investments give 10% returns. The returns are the same irrespective of NAV. This makes NAV just a number.

4. Stay invested for long term:

ELSS is an excellent investment if you stay invested for the long term. Invest in ELSS for the long term for compounding benefit. Compounding benefits are return on returns.

Let’s understand the benefits of compounding returns in ELSS with an example:

Uday starts investing in an ELSS scheme at the age of 23 years. He wants to retire at 60 years. He invests Rs 8,000 a month via SIPs. How much will he have at retirement?

Let’s assume a conservative figure of 9% rate of return. Uday invests Rs 8,000 a month for 37 years. (This is 60 years – 23 years = 37 Years). The invested amount at maturity is Rs 2.83 Crores. You have to account for inflation which gives a much lower figure at retirement.

5. Watch the Fund:

To get best returns from ELSS, track the performance of your ELSS schemes regularly. If you find a deviation in performance vis-à-vis set financial goals, take corrective action.

Study the portfolio of the ELSS scheme. Take a look at fund size, expense ratio and Crisil Rank. Track the returns over 6 months, 1 year, 2 year and the 3 year period. Take a look at the annualized returns. Compare the performance vis-à-vis peers. (Category Average).

Check the number of stocks in the portfolio of the ELSS. Take a look at the top 10 stocks held in the portfolio. Take a look at the large cap investments, mid cap investments and small cap investments. Take a look at returns from the ELSS scheme if investments are made via SIPs.

Take a look at Standard Deviation which measures risk, Beta for volatility, Sharpe Ratio for better risk adjusted returns, Treynor’s ratio and Jenson’s Alpha for better risk adjusted returns.

You will have to stick to the investment in ELSS scheme till the lock-in is over. If you find the ELSS scheme to be underperforming, change the investment and opt for a new ELSS scheme.

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