You can invest in mutual funds in two ways- either through Systematic Investment Plan (SIP) or in a lump sum. Before choosing an investment method make sure that you take into consideration your risk appetite, the type of underlying asset class, market situation, among other factors.
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Here is a quick rundown of the pros and cons of both the modes of investment to ascertain which one would work best for you under different situations.
If you do not have a lump-sum amount you can start a SIP in mutual funds. Let’s say, you want to invest Rs. 1.2 lakh in a year, and do not have the entire amount, then you can invest Rs. 10,000 every month.
If you choose the SIP method then you can benefit from the 'rupee cost averaging’ in the long-term. What happens is you buy the units of a mutual fund at different price points, which in turn reduces your purchase costs and increases the chances of earning profits on the same units. When you stay invested for a longer duration you are likely to get better results in comparison to a shorter duration.
SIP investments protect the invested amount from market volatility in the long-term. By investing a particular amount every month it is easier to build a big corpus over a period of time. So, when the market dips, your fund house can buy more units at a lower NAV/ net asset value. Conversely, when the market improves, you gain profits and can cash out.
Therefore, even in the falling markets, your investment portfolio is always inclined towards profits, and there are higher chances of getting profitable returns when the market turns positive.
On the other hand, lump sum is a one-time investment and you can invest Rs. 1.2 lakh for the entire year in one go. All you need is the entire money in hand and a higher risk tolerance.
One challenge with lump sum investments is that you need to time the market in order to get higher returns. And it is usually not possible to identify a perfect time to invest money.
And if you invest at a wrong time, there are higher chances of you incurring losses that are only recoverable in months or years. Thus it makes sense to choose the lump sum mode only if you have a risk appetite and can wait for longer durations to get profitable returns. And the more risk you take the more will be chances of getting good returns.
And if you do not want to take risks and still have chosen the lump sum investment mode then you can consider investing in debt funds. There are lesser chances of incurring losses and can expect moderate returns on your investments.
And if someone is approaching their retirement days then it is suggested to invest in lump sum in debt funds only.
Lump sum can offer your better returns in comparison to SIPs.
For instance, if the NAV of a mutual fund is Rs. 100 and is likely to reach Rs. 200 in the next 3 years, then you can expect higher returns by investing the entire fund at an NAV of Rs. 100. And if you choose the SIP method, your average NAV-buying level would rise and your return on investment can fall significantly.
If the market looks uncertain, or is going through a market correction, investing through the SIP mode would be more useful. During market volatilities, lump-sum investment can get you negative returns in the long-term; on the other hand, SIPs can offer you excellent returns in the long-run.
For instance, if you invest in an equity fund with a NAV of Rs. 100 and it falls down to Rs. 60-70 levels in the next 2 years, and it recovers to Rs. 100 in the 3rd year.
Here are the two scenarios:
SIP Method: Positive returns because SIPs allow you to invest in the falling markets also
Lump sum Investment at Rs. 100: No returns
To Conclude
As you can see if you want to play it safe, it makes sense to choose the SIP method to benefit from the volatile markets in the long-term. By regular investments, you can build a corpus over a period of time.
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