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Are you confused about whether you should go the SIP route?

Are you confused about whether you should go the SIP route?

SIP or Systematic Investment Plan is not an investment instrument in itself, but a mode of investing in mutual fund schemes and other asset classes like equity, debt and commodities. 

Each SIP installment adds to the overall investment corpus, helping in capital growth. Each SIP installment adds to the overall investment corpus, helping in capital growth.

What is SIP? Why invest in one? What are the benefits of SIP? These are all common questions that potential investors ask when getting started on their investment journey. SIP is often confused with mutual funds, and whiles not exactly the same thing, the two are interrelated. In this article, we will break down SIP and tell you everything you need to know about it. 

What is SIP?

SIP or Systematic Investment Plan is not an investment instrument in itself, but a mode of investing in mutual fund schemes and other asset classes like equity, debt and commodities. 

As the name suggests, SIP follows a systematic approach that paves the way for affordable, convenient and disciplined investing. When considering mutual funds as the investment vehicle, they offer investors a variety of schemes to choose from, based on investment goals, duration and risk appetite.

How does SIP work?

SIP allows investors to break up their investment corpus into smaller instalments. These instalments are fixed in amount and can be systematically credited to a mutual fund scheme over regular time intervals. Let's look at an example: 

Imagine that you would like to invest INR 60,000 in a certain mutual fund scheme, but you don't have that amount handy right now. You could choose to set up a SIP and start investing INR 5,000 per month. With each instalment of INR 5,000, you purchase a certain number of scheme units and can already start enjoying the benefits of investing. By the end of 12 months, you would have not only invested the entire amount of INR 60,000 but could have also earned potential returns on the scheme units you purchased each month.

The many benefits of SIP

• SIP allows you to invest through small instalments and, therefore, makes investing affordable for people of varying economic backgrounds.

• With SIP, you have the flexibility to choose how much you want to invest and at what time intervals. For example, you could even choose to invest an amount as low as INR 500 per month. Alternatively, you could choose daily, weekly, monthly and even quarterly intervals for your SIP.

• You can set up SIPs automatically using your net banking account, which makes it seamless and convenient.

• With a portion of your savings automatically getting invested at regular intervals, you develop a disciplined investing habit without too much effort.

• You could even choose to increase your SIP instalment amount as your financial situation changes.

• You can also pause or stop your SIP at any time with a request to the fund house, should the need arise.

Rupee cost averaging

One of the main benefits of SIP is rupee cost averaging. Here's how it works:

Each SIP installment purchases scheme units based on the prevalent NAV (net asset value) of the scheme on the day the instalment is credited. If the NAV is low, more units get purchased, but if the NAV is high, fewer units will be bought, but the overall value of the investment increases. For example, imagine that the SIP installment gets credited on the 15th of each month and the instalment amount is INR 1,000. On the 15th of January, when the installment gets credited, the NAV is INR 10, therefore 100 units of the scheme are purchased. On the 15th February, the NAV is INR 20, which means that only 50 units will get purchased; however, the value of the 100 units already in holding is now INR 2,000. In the following months, the NAV could rise and fall based on market conditions, but the instalment amount will remain constant and purchase units accordingly. Over time, the purchase price of the units averages out and is termed rupee cost averaging. This process eliminates the need for investors to time the market while making their investments. 

What to keep in mind while investing through SIP?

Each SIP installment adds to the overall investment corpus, helping in capital growth. Therefore, the longer you stay invested in SIP, the more the number of instalments, which in turn could considerably build up your principal amount. One of the main benefits of investing early in SIP is that you can give your investment more time and potential to achieve even higher financial goals. For example, if you start investing towards retirement planning in your 20s, you could be giving yourself about 35 years to save towards that goal. Even a SIP of INR 2,500 per month for that duration could build up to INR 1.05 crores without counting potential returns. Time also gives you the flexibility to invest towards several financial goals at different stages of your life, like buying a car, buying a house, planning for your marriage, child's higher education, and so on.

While staying invested for the long-term, it is also essential to review the instruments you have invested in. For example, if you find that a certain mutual fund scheme has been underperforming consistently for over two years, you could consider redeeming that investment and reinvesting in a better performing scheme. This way, you continue to stay invested for a longer duration while protecting your portfolio from potential losses.

SIP could potentially be one of the most effective means to grow your wealth over time. Now that you understand how SIP works, you can take the first step in the right direction towards achieving financial independence.