What is SIP
A SIP also known as Systematic Investment Plan is a type of investment that helps you to save and grow your money over time. Instead of investing a large amount of money all at once, with a SIP, you invest small amounts regularly. For example, rather than investing ₹6000 all at once, you can 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 amount you want to invest, how frequently you want to invest, and for how long you want to do it. You can easily set up a SIP and have the investment amount automatically deducted from your bank account each month, which makes your investment hassle-free. Hence, SIPs are an excellent option for anyone who wants to invest in mutual funds but doesn’t have a large amount of money to invest.
Benefits of SIPs
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 invested 1000 rupees in shares of ABC Ltd. which was worth 10 shares (Rs. 100 per share). However, as the price of the shares increased, 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.
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.
Convenience
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.
Flexibility
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.
Cost-effective
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.
Diversification
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.
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.
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.
Power of Compounding
The returns you fetch on your accrued returns are referred to as compounding of returns. These returns are calculated using the XIRR method, and it can help small investors grow and accumulate decent wealth in the long run.
To get the maximum benefit from the power of compounding, you need to start investing early so that you have more years in hand to compound your wealth. You can calculate compounded returns through SIP with the help of sophisticated and easy-to-use SIP calculators available on several financial websites.
Higher Returns
Mutual fund schemes are professionally managed by fund managers who are experts with proven track records. They consistently work toward generating optimum returns from the investment with the help of their team of qualified research analysts. By investing a small amount via SIP regularly, You can reap significant returns in the long term with the help of professional management.
SIP in carefully selected equity mutual funds can generate substantially higher returns than conventional investment avenues like Recurring Deposits, PPFs, etc., which can help you achieve your long-term financial goals sooner. Furthermore, you can claim tax deductions of up to Rs 1.5 lakhs under Section 80C of the Income Tax Act, 1961, by investing in tax-saving SIPs or Equity-Linked Saving Scheme (ELSS).
Conclusion
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.