WHAT IS SIP INVESTMENT: HOW DOES IT WORK?

What is SIP in mutual fund?

A systematic investment plan or SIP is a method of investing in mutual funds where an investor opts for a mutual fund scheme and invests in it at fixed intervals. An SIP investment plan works by investing a small amount of money over time rather than investing a one-time huge amount that could result in higher returns.

How does a SIP work?

Now that we understand the meaning of ‘what is SIP investment’, here is how they operate. Once you opt into a systematic investment plan, the amount will be automatically debited from your bank account and reinvested in a mutual fund that you purchase at some predetermined time interval. By the end of the day, you will be allocated units of your mutual fund that depend on its net asset value.

With every investment into an SIP plan in India, any additional units will be added into your account as per the market rate. With every investment that is made, the amount that you reinvest will be larger in addition to any of the returns that you see on those investments. The investor decides whether or not to receive the returns at the end of the SIP’s tenure or at any periodic intervals. Let’s try to understand this better using an example.

Assume that you want to invest in a mutual fund of your choice. Accordingly, you set aside a sum of ₹1 lakhs to invest in the same. There are two ways in which you can choose to make this investment. You can either make a one time payment of ₹1 lakhs in the mutual fund of your choice, which is known as a lump sum investment. Alternatively, you can choose to invest using an SIP. The steps will be as follows:

• Begin by setting the amount you wish to invest via your SIP each month. Let’s assume you choose ₹500.
• Following this, ₹5oo will be deducted from your account each month, and automatically credited into the mutual fund that you want to invest in at a certain fixed date every month.
• This process will continue for the duration that you have selected for your systematic investment plan.

Types of Systematic Investment Plans

Below are the different kinds of systematic investment plans you can consider investing in:

Top-up SIP:

This kind of systematic investment plan enables you to increase your investment amount on a periodic basis while also giving you the flexibility to invest more when you have a higher income that can be invested. This type of SIP also helps one make the most out of their investments by investing in the best as well as the most high performing funds at regular intervals.

Flexible SIP:

As suggested from its name, this type of systematic investment plan carries with it the flexibility of the amount you want to invest in. The amount that is to be invested as per an investor’s cash flow and needs or preferences can be increased or decreased.

Perpetual SIP:

This type of SIP Plan enables you to carry out your investments without any end to the mandate date. Generally, a systematic investment plan carries an end date after one year, three years, or five years of investing. Hence, the investor has the freedom to withdraw the amount that is invested whether or not he wishes to invest in accordance with his financial goals.

Benefits of SIP investing

Here are some of the several benefits when it comes to investing in an SIP over a lump sum investment. Some of them are listed below.

Makes you a more disciplined investor:

In case you do not possess superior financial knowledge about the way in which the way the market moves, an SIP can make the ideal investment option. You need not spend your time analyzing market movements to find the right time to invest in something. With an SIP, your money is automatically deducted from your linked bank account and it goes towards your mutual funds. Hence, you can sit back and relax. Furthermore, unlike your lump sum investments, an SIP ensures that you work actively towards enabling your investments to grow as a result of periodicity.

Rupee cost averaging:

One of the main advantages of SIPs is rupee cost averaging. Since the amount you invest remains constant for a longer time period, with rupee cost averaging you can make the most of market volatility. The fixed amount that you choose to invest implies that your SIP will average out the value of each unit. Hence, you can choose to buy more units once the market is low and opt for lesser units when the markets are high. Ultimately, this will lower your average cost per unit.

Power Of Compounding:

SIPs make for a disciplined means of investing since they ensure that your investments will constantly grow. THe automation of the entire process allows your investments to increase over time as opposed to a lump sum investment where you might forget to keep investing over time. In fact, the point of an SIP is to allow the small amount you invest on a daily basis to grow into a large corpus as a sum of your contribution with returns that have compounded over the years. The power of compounding without the hassle of having to invest a lump sum amount gives SIPs a unique advantage over standard investment options.

The Takeaway

SIPs make for a great investment option if you are looking for something beginner friendly that does not require a large amount of capital. SIPs come with the advantage of rupee cost averaging, enable one to become a more disciplined investor, and can allow one to benefit from the power of compounding. There are many different types of SIPs so ensure you do adequate research before investing.