Consistency and Steadiness — If this is how you’d like to describe your expected investment returns, then SIPs are the approach you should definitely experiment with. SIPs discipline your investment journey and help you average your returns according to market conditions. How? Let’s find out in the blog below. Here, we’ll discuss the A-Zs of SIPs, how they work, and, more importantly, whether you should go for the approach or not.
What is a SIP?
A SIP or Systematic Investment Plan is a type of investment that helps you save and grow your money over time. Instead of investing a large sum of money all at once, with a SIP, you invest small amounts regularly. For example, rather than investing ₹6000 all at once, you invest ₹500 every month over a period of one year.
SIPs are a convenient and flexible way to invest in mutual funds. You can choose how much you want to invest, how often you want to invest, and for how long you want to continue investing. You can easily set up a SIP and have the investment amount automatically deducted from your bank account each month, so you don’t have to worry about making manual investments. Hence, SIPs are a great option for anyone who wants to invest in mutual funds, but doesn’t have a large sum of money to invest all at once.
The idea behind a SIP is to average out the cost of your investment over time. For example, if you invest the same amount of money each month, you will buy more units when the price is low and fewer units when the price is high. This means that you will end up paying an average price for all the units you have purchased, which can help you maximise your returns over the long term. This approach is called Rupee Cost Investing, and we will talk more about it further in this blog. For that, let’s explore all the ways in which SIPs can benefit you.
Benefits of SIPs
Here are some of the key benefits of SIPs:
1. Rupee Cost Averaging
Rupee Cost Averaging is a term inspired by the approach of Dollar Cost Averaging or DCA. This approach was introduced to us by Benjamin Graham, in his book, The Intelligent Investor. Rupee Cost Averaging allows you to invest small amounts regularly, which helps you average out the cost of your investment over time. Let’s understand this with an example:
You invest 1000 rupees in shares of ABC Ltd. which was worth 10 shares (Rs. 100 per share). However, as the price of the shares increase, they got expensive. So when you invested 1000 rupees next month, you ended up buying only 8 shares for the same price. The consecutive month, the price decreased and you got 12 shares for the same price. Hence, when the markets were expensive, you bought fewer shares and when the markets were cheap, you got more shares at the discounted price. This means you averaged out the cost of your investment, by simply following a disciplined strategy of investing the same amount every month.
SIPs also work on the foundation of this approach. Hence, investing in SIPs can give you an edge in averaging out your investments without having to worry about the timing the market.
2. Investment Discipline
SIPs encourage a disciplined approach to invest by requiring you to set aside a fixed amount of money on a monthly basis. This helps you build a disciplined habit of saving and investing, which is critical for long-term financial success. Investing discipline also enables you to reap the benefits of wealth-compounding over decades better than the benefits you would get through lump sum investing.
SIPs are easy to set up and manage. Moreover, the mandate allows the investment amount to be automatically deducted from your bank account each month. Hence, you don’t have to worry about making manual investments. This makes SIPs a convenient option for individuals who are busy or who don’t have the time to manage their investments actively.
SIPs offer you the flexibility to choose the amount you want to invest, the frequency of investment, and the duration of the investment. This allows individuals to tailor their investments to meet their specific financial goals and needs. In India, you can start a SIP with as low as ₹500 a month.
Investing through SIPs is cost-effective, as the investment amount is small and the investment management fees are spread over a longer period, reducing the impact of fees on overall returns.
As the aphorism goes, “Do not put all your eggs in one basket”. SIPs allow individuals to invest in a diversified portfolio of securities, reducing the risk of investing in a single security. This is because mutual funds invest in a variety of stocks and bonds, which helps to balance the portfolio and reduce the risk of losses due to market volatility.
7. Professional management
Mutual funds are managed by trained professionals with several years of industry experience. SIPs provide access to professional investment management, which can help individuals make informed investment decisions and achieve their financial goals.
8. Long-term benefits
SIPs are a great option for long-term investment, as they allow individuals to invest regularly over an extended period of time, taking advantage of the power of compounding. This means that the returns on your investments are reinvested, resulting in exponential growth over time.
How does a SIP work?
Let’s understand how a SIP works and how to set up your SIP mandate:
1. Choose a mutual fund scheme
The first step to setting up your SIP is to choose a mutual fund scheme. Remember to research well and choose a scheme that aligns with your financial goals and risk tolerance. There are various types of mutual funds, including equity funds, debt funds, and balanced funds, each with its own set of benefits and risks.
2. Set up the SIP
Once you have chosen a mutual fund scheme, you can set up the SIP by filling out a form and providing the required personal and financial information. You will also need to provide your bank account details for automatic deductions.
3. Determine the investment amount and frequency
You will need to decide how much you want to invest each month and how often you want to make the investment. Most SIPs are set up to invest monthly, but you can also choose to invest quarterly, bi-annually, or annually, depending on your preferences.
4. Start investing
Once you have set up the SIP, the investment amount will be automatically deducted from your bank account each month and invested in the chosen mutual fund scheme.
5. Track your investments
You can track your investments and monitor their performance through your mutual fund account or the fund’s website. You can also make changes to your SIP, such as increasing or decreasing the investment amount or stopping the SIP mandate altogether, at any time.
Now that we know how SIP operates, let’s move on to understand different types of SIPs.
Types of SIP
1. Regular SIP
A Regular SIP is the most common type of Systematic Investment Plan, where you invest a fixed amount of money at regular intervals, usually monthly. The investment amount and frequency can be changed over time, but the investment duration remains fixed. For example, you may start by investing INR 5000 per month for five years. This type of SIP is ideal for people looking to create a disciplined savings habit and invest in a long-term investment strategy.
2. Flexi SIP
A Flexi SIP is a more flexible version of a regular SIP, where you can change the investment amount and frequency based on your financial situation and goals. This type of SIP allows you to increase or decrease the investment amount as needed, making it ideal for people who want more control over their investments. For example, you may want to increase your investment amount during times of high disposable income or decrease it during times of financial stress.
3. Top-Up SIP
A Top-Up SIP is a type of SIP that allows you to increase the investment amount with each instalment. This type of SIP is designed to take advantage of the power of compounding, as the larger investment amounts will earn more returns over time. For example, you may start with an investment of INR 5000 per month and gradually increase it by 10% or INR 500 each year.
4. Trigger SIP
A Trigger SIP is a type of SIP that is triggered by certain market conditions or events. This type of SIP is ideal for people who want to take advantage of market opportunities and invest more during periods of low market prices. For example, you may set up a trigger SIP that automatically invests a larger amount during market downturns.
5. Perpetual SIP
A Perpetual SIP is a type of SIP that has no fixed end date and continues until you choose to stop it. This type of SIP is ideal for people who want to create a long-term investment strategy and build wealth over time. With a perpetual SIP, you can invest a small amount each month, gradually increasing your investment to benefit from the power of compounding.
Difference between SIP and Lumpsum Investment
A Systematic Investment Plan (SIP) and a lump sum investment are two different approaches to investing in mutual funds:
● Systematic Investment Plan (SIP)
SIP is a type of investment in which a fixed amount of money is invested regularly, usually monthly, into a mutual fund. The investment amount and frequency can be changed over time, but the investment duration remains fixed. The key advantage of SIP is that it helps investors create disciplined saving habits and regularly invest over the long term. This approach helps to average out market ups and downs and benefit from the power of compounding.
● Lump Sum Investment
A lump sum investment is a one-time investment of a large sum of money into a mutual fund. This type of investment is ideal for people with a large sum of money available and wish to invest it in one go. The key advantage of a lump sum investment is that it provides the potential for a higher return, as the entire sum can be invested and start earning returns immediately. However, there is also a higher risk associated with a lump sum investment, as the entire sum is invested in one shot and is subject to market fluctuations.
It is important to either research well or consult a financial advisor in order to determine the best investment approach based on your financial goals, investment needs, and risk tolerance.
Things to consider before starting a SIP
SIPs allow you to invest small amounts regularly, making it easier to discipline your investment habit and leverage the power of compounding. However, before investing in SIPs, it is important to consider several factors to ensure that you are making the best investment decision for your specific financial situation.
1. Investment Goals
The first step in investing in SIPs is to establish your investment goals. This includes determining the amount of money you want to save, the time frame for your investment, and the type of return you are looking for. This will help you to choose the right type of SIP and mutual fund for your specific financial situation.
2. Investment Horizon
It is important to consider the length of your investment horizon when choosing a SIP. Usually, SIPs are designed for long-term investment, and the longer your investment horizon, the more time your money has to grow. For instance, if you are saving for retirement, you may have a longer investment horizon compared to someone saving for a short-term goal, such as a down payment on a house or an international vacation.
3. Risk Tolerance
The next step is to assess your risk tolerance. This refers to your willingness and ability to take on risk in pursuit of higher returns. Different mutual funds have different levels of risk and return, and it is crucial to choose a fund that aligns with your risk tolerance. For example, if you have a low risk tolerance, you may want to consider investing in a more conservative fund, such as a debt fund, while if you have a high risk tolerance, you may want to consider investing in an equity fund.
4. Investment Amount
It is important to determine how much you can afford to invest each month. SIPs are usually designed to be affordable, with most plans allowing you to invest as little as ₹500 per month. However, it is important to ensure that you are investing an amount you can afford to set aside each month without sacrificing your financial stability.
5. Fund Selection
Once you have determined your investment goals, risk tolerance, and investment amount, it is time to choose a mutual fund for your SIP. There are many different types of mutual funds available, like equity funds, debt funds, and balanced funds, each with its own unique investment strategy and risk-return profile. It is important to choose a fund that aligns with your investment goals and risk tolerance.
6. Fund Manager
The fund manager is responsible for managing the mutual fund and making investment decisions on behalf of the investors. It is important to research the fund manager’s profile, track record and investment style to ensure that you are comfortable with their approach to investing. You can find information on the fund manager and their performance by reading the fund’s prospectus or checking the fund’s performance history.
7. Expense Ratio
The expense ratio is the annual fee that mutual funds charge for managing your investment. It is important to consider the expense ratio when choosing a mutual fund, as high fees can eat into your returns over time. You can find information about the expense ratio in the fund’s prospectus or by checking the fund’s performance history.
8. Tax Implications
It is important to consider the tax implications of investing in SIPs. The tax liability involved in mutual fund investments varies depending on the type of fund and the length of the investment. It is important to consult a financial advisor or tax professional to determine the best approach for your specific financial situation.
To deduce, SIPs come with countless benefits, provide some or the other kind of value to many investors out there. However, it is important to know that SIPs are not a miracle solution to get returns. Your CAGR or Profits also depend on the value of the underlying assets that the SIP invests in. Hence, ensure to research well about the mutual funds you are investing in.
Disclaimer: This blog has been issued on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this document is for general purposes only and not a complete disclosure of every material fact. The information/data herein alone is not sufficient and shouldn’t be used for the development or implementation of an investment strategy. It should not be construed as investment advice to any party. All opinions, figures, estimates and data included in this blog are as on date. The blog does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. The statements contained herein may include statements of future expectations and other forward-looking statements that are based on our current views and assumptions and involve known and unknown risks and uncertainties that could cause actual results, performance or events to differ materially from those expressed or implied in such statements. Readers shall be fully responsible/liable for any decision taken on the basis of this article.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.