According to data from the Association of Mutual Funds in India (AMFI), the popularity of Systematic Investment Plans (SIPs) has been soaring in recent times. In June 2023, new SIP account registrations reached a record high of 2.78 million. This surge in SIP investments highlights the increasing interest of Indian investors in this disciplined and rewarding investment approach. This article will explain theworking of an SIP in India and define SIPs. It will also elaborate on the features of SIPs and the benefits they offer.
What is a Systematic Investment Plan (SIP)?
Systematic Investment Plans help investors invest regularly and in smaller amounts. Instead of making a lump sum investment, investors can contribute a fixed sum periodically, such as monthly or quarterly. This feature makes SIPs highly convenient and accessible to all types of investors, whether they are beginners or seasoned market participants.
Features of SIPs:
- Rupee cost averaging: Since investors buy mutual fund units at different price points over time, they acquire more units when prices are low and fewer units when prices are high. This averaging effect, called “Rupee-Cost Averaging”, helps reduce the overall cost per unit and mitigates the impact of market volatility.
- Power of compounding: SIPs leverage the power of compounding, allowing investors to earn returns on their principal investment and on the accumulated returns over time.
- Flexible investment amounts:Investors can choose the investment amount while investing in SIPs. Investors can start with as little as ₹100 and then gradually increase the investment amount.
- Automatic investment: Once investors set up an SIP, the investment amount is automatically debited from their bank account on the chosen date. This automation ensures consistency in investment and eliminates the need for manual intervention.
- Convenience and discipline: SIPs instill financial discipline by encouraging regular investments.
How do SIPs work? Here is an example:
Understand the functioning of an SIP with an example. Suppose A decides to invest ₹5,000 per month in an equity mutual fund through an SIP. The current Net Asset Value (NAV) of the mutual fund is ₹50.
Month 1: ₹5,000 / ₹50 (NAV) = 100 units purchased
Month 2: ₹5,000 / ₹60 (NAV) = 83.33 units purchased
Month 3: ₹5,000 / ₹55 (NAV) = 90.91 units purchased
Month 4: ₹5,000 / ₹45 (NAV) = 111.11 units purchased
Total units purchased after four months = 100 + 83.33 + 90.91 + 111.11 = 385.45 units
Assuming the NAV at the end of the fourth month is ₹65:
Current investment value = 385.45 units * ₹65 (current NAV) = ₹25,020.25
Note that A accumulated 385.45 units over time. The investment value increased to ₹25,020.25, showing the benefit of rupee cost averaging and compounding.
Before investing in a mutual fund through an SIP, you must assess the past performance of the mutual fund scheme and also check whether it fulfills your long- and short-term financial goals.