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| What is SIP? | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| A Systematic Investment Plan is just what the name implies. You systematically and regularly invest a fixed sum of money in a mutual fund. On a fixed date every month, you will invest, say Rs 1000 in Birla Sunlife MF Plan A. Depending on the NAV of the mutual fund units, the number of units you buy will therefore vary each month. You can make your payment either through post dated cheques or an ECS instruction. This is pretty much like your regular saving scheme or a recurring deposit, except your money goes to a mutual fund rather than a bank or post office. Why would I want to go for an SIP? Because the benefits of regular investments are manifold. Firstly, you stand to gain better returns through an SIP than if you invest a lump sum of money in one go and stay invested for the same period of time. The table below shows you the NAV returns and the SIP returns from six different mutual funds over a five-year period and since inception. SIPs always score over lump sum investment in the five-year plus (since inception) period. In the five-year period though, SIP and lump sum investments seem to be scoring equally.
Why does SIP give such high returns in the long term? This is a phenomenon called Rupee Cost Averaging. This is when you invest a sum of money in regular instalments over fixed intervals, rather than as a lump sum at one go. The strange thing about it is that the regular investor always makes more money even if the starting price, finishing price and average price are the same. Look at the following table that compares a Rs 100,000 investment over six months. The unit price of the MF is varying through the six months, but starts and ends the same. But the SIP investor ends with 2036 units paying an average price of Rs 50, while the Lump sum investor ends up with 2000 units. Unit
While the lump sum investor sees erosion of his capital during the six months as his NAV drops to Rs 40 at its lowest, the SIP investor does not see his capital go through such dizzying oscillations as his money is being injected at a much slower rate. In other words, he is limiting his exposure to the market volatility. Moreover, as the price falls, he acquires more units, benefiting from it, just as he acquires fewer units when it rises. On the whole, his cost of acquiring units falls, a smart way to take advantage of the inherent market volatility. Remember though, that an SIP only reduces your market risk and does not assure profits. So whether the market is doing well or not, you will always be better off investing in an SIP and your breakeven for an SIP will always be lower. Reaching this breakeven or crossing it is of course not guaranteed. Ok, I am convinced. How do I begin now? First choose the right plan. Decide on an investment you are going to make every period. Your frequency can vary from weekly to monthly and quarterly. The ideal frequency depends on how you receive your income. A call center employee gets his income monthly, a sales-person may get it quarterly, while a farmer may get his yearly. Synchronising your payments with your income pattern is the smart thing to do. But ascertain that you can commit to paying this amount every month as the SIP is most effective only if you are disciplined in your payments. The minimum length of an SIP, though not the recommended length at all, is 6 months. And you can start your payments as low as Rs 500. These payments can be made either through post-dated cheques, ECS instructions or a Systematic Withdrawal Plan. During the course of your investments, if you suddenly have a large sum of money to invest, you can always put it into your SIP. Nothing prevents you from doing so, as SIP is a payment mode and not a scheme. You can invest any amount in SIPs and it is not necessarily for small investors. An SIP will work equally well whether you are investing Rs 10,000 or Rs 100,000 in a disciplined manner. Some Caveats 1.For a mutual fund, not a single equity. SIP in a single instrument will offer you one advantage, and that is reducing your risk from market volatility. But if your particular equity performs badly, then you might still make a loss. The great thing about an SIP with a well-diversified mutual fund is that, the SIP protects you from the market risk, while the MF protects from specific company risk! So if you pick a Sensex index fund for example, which is diversified across the 30 companies of Sensex, rather than a single share, your risks are overall much lower. Moreover, index funds require lesser management, and so your charges on that front are also lower. 2.You are looking at a long term You are better off not canceling your plan before your full length is through, because SIPs work in the long term. Over the short term, your returns will be pretty much the same as in a mutual fund scheme. Then again, if you can stomach market churn and bear in mind that equities are for the long term and are willing to give your funds about 10 years, you can invest a lump-sum, without the SIP route. When an SIP route is an absolute must is if your horizon is less than 5 years. |
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