A Simple Guide to Systematic Investment Plan

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An SIP is a method of investing in mutual funds to help investors save a specific amount on regular intervals. The returns are market linked and generally benefit from the compounding interest. It looks similar to a bank or post office fixed deposit but in SIPs, a fixed amount is invested every month. The difference is that the money is invested in funds.

The investments in SIPs can be as small as Rs. 500 and you can opt for monthly or quarterly investments as per your preferences.

Here is an illustration:

Six years ago, Raj started investing in a monthly Systematic investment plan in diversified equity funds for his daughters. He started with a small amount of Rs. 500, which he kept increasing By Rs. 1000 every year and eventually he started investing Rs. 7500 in SIPs every month on each daughter’s name. Now both the girls have Rs. 7 lakh to their names when they are still in school. Such is the power of SIPs.

Why should you start an SIP?

You don’t need to worry about market volatility

SIPs are recommended against lump sum payment in mutual funds because the SIP method makes market volatility work for you and not against you. By investing regularly over a period of time at different points in the market, your investment cost averages out with Rupee cost averaging.

For instance, if you start a monthly SIP of Rs.10, 000 because the markets fluctuate over a short period, your investment cost will be different. Here is an illustration to help you understand:

Time ( 2018) Invested Amount (in Rs.) MF per unit/price Number of units bought
January 10k 200 50
February 10k 250 40
March 10k 150 66.66
April 10k 100 100
May 10k 300 33.33
Total 50k 172,41 289.99

( the above table is for illustration purpose only)

So, by the end of May, the total amount would be Rs. 50,000. By May the total units at hand would be 289.99. But you can see that market correction brings the fund unit price down, and the same invested amount gets you more units.

It resulted in the average cost of units- when the market fell by the end of the 5th month your units were worth Rs. 172.41/ unit. And when the market rose, this lower cost earned you higher returns.

Simply put, if you stay invested through the market volatility, the amount invested averages out and you get higher returns. And it makes a Systematic investment plan one of the best ways to invest in the market.

2. You don’t have to time the markets

It is practically not possible to predict the market movements, and it doesn’t make sense to putting a hold on your investment while waiting for the right time. But with SIPs, you don’t need to worry about timing the market. As you regularly invest a fixed amount, the investment is done through the full market cycle. This way it averages out your cost.

You can start a SIP even when the markets look expensive because when there is market correction, you will get the benefit, thus reducing your overall costs.

3. You can start small!

You don’t need to start with a big amount in a Systematic investment plan. Even beginners can start with a small amount of Rs. 500.  Instead of waiting to have sufficient funds you can regularly invest a small amount. You can select a particular amount and choose the auto debit option for the amount to get debited from your bank account directly towards the Systematic Investment Plan.

4. Power of Compounding

Another benefit that you get with SIPs is the power of compounding. So, when you stay invested over a period of time and earn returns on your investment returns, the amount would start compounding. With small investments, you can build a large corpus and meet your long-term financial goals.

Calculate Returns Online with SIP Calculator?

While a lot of millennials prefer to choose the SIP way, things have been further simplified with SIP Calculator. By using a SIP calculator you can have an estimate of returns that you will get on your SIP investments. However, the actual returns might vary on a number of market-related factors but SIP calculators give the potential investors a fair idea of the SIP investments. It does not take into account the expense ratio and the exit load.

An online SIP calculator works on the values provided by the users and is designed based on the compound interest formula. You simply need to enter the investment amount, duration of investment, frequency and the expected SIP returns. And the compounded interest powers the SIP returns.

How the SIPS Score?

Every month or quarter you keep aside a fixed amount of money and this brings discipline in your investment approach. You can either pay for your SIPs through a post-dated cheque or get the amount debited directly from your bank account towards a systematic investment plan.

As you can see from the above information, a systematic investment helps you build a corpus in the long term. Since you get fewer units when the NAV rises and more units when its drops, the cost averages out in long-term. Basically, you tide over the market's ups and downs without any major losses.

Also, there are some fund houses that do not charge entry load fee on opting out of a SIP. It is a percentage of the amount that you invest. And you have to pay the exit load in case you sell your units within a year of buying the units and if you sell them you have to pay the exit load charges.  This is the same as an entry load, the only difference is that it is charged on selling the units. So it is beneficial to stay invested over a period of time.

Over to you

Clearly, a systematic investment plan or SIP is one of the best methods of investing in the funds. At the same time invest in SIP, with at least a three year investment horizon.