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SIP your way to wealth!

Last updated on: May 26, 2009 12:55 IST

Read any investment article and you are guaranteed to come across the word SIP. Ask any investment advisor about the most effective way to invest in equities and he is bound to recommend SIP.

What is SIP, what are its pros and cons? Is it beneficial for you? Read on to know more about this powerful investment option for you.

What is SIP?

SIP (Systematic Investment Plan) is one of the most effective ways of investing in equity markets. In SIP, you invest a certain amount each month into the equity mutual fund of your choice. This amount can be as low as Rs 100.

This amount is either directly debited from your bank account or you have to issue post-dated cheques to the fund house. The SIP amount is debited from your account on specific dates.

You can continue with SIP for any period and can modify the SIP amount as per your wish. If your circumstances change, you can also stop SIP without having to pay any penalty. Looking at the flexibility offered by SIP, is it any wonder that it is the most preferred mode of investment in equities.

What are its advantages?

SIP has many advantages. For one, it allows you to invest the amount you are comfortable with into the mutual fund of your choice. You need not invest the whole amount at a single shot. Also it removes the stress of timing the market.

We all know that stock market is very volatile and can change at any moment. If the market is high, your money buys fewer units and more units when the market is low. It allows you to average your purchasing cost.

This method of investment is known as "rupee cost averaging". Moreover SIP is very flexible mode of investment. You can increase or decrease the amount invested, change the tenure of investment or even stop investment if you are not satisfied with the fund's performance or your circumstance changes.

Are there disadvantages?

If you think that SIP has only pros, then you are wrong. One of its drawbacks is that it fails to deliver in rising market.

For example, if your SIP amount is Rs 100 and the NAV is Rs 50, you will get 2 units for your amount invested. Now in the next month if the NAV becomes Rs 100, you get just 1 unit. In the third month, if the NAV becomes Rs 200, then you don't get any unit for that month.

Secondly, in order to effect any change in SIP, you have to stop the original SIP and start a fresh one. It usually takes around 20-25 working days for the fund house to process your application. So you may end up missing out on a month's installment.

I have heard about Systematic Transfer plan. What is it?

Just as SIP, mutual funds also let you avail of Systematic Transfer Plan (STP). The difference is that in SIP, the amount is debited from your bank account, in STP, the amount is transferred from one of your mutual fund account into a new one.

While you can avoid paying entry load for SIP by opting for direct investments, you must pay switching charges for STP. Normally you transfer money between a liquid fund and equity fund.

How does SIP compare with other investment options?

SIP

STP

Lump Sum

Regular investment frequency

Regular investment frequency

One time investment

Entry load of 2.25% or nil if directly invested

Switching charges on the amount transferred

Entry load of 2.25% or nil if directly invested

Useful if you don't have any investment with the fund house

Helps to switch your existing investments with a fund house to maximize returns

Useful if you are making a first time investment or want to add on to your investment

Allows you exposure to equities

Gives you exposure to both debt and equities.

Allows exposure only to equities

Can be started with amounts as low as Rs 100

Require high amounts as most liquid funds expect an investment of at least Rs 1 lakh

Minimum amount required is Rs 5000 for the first investment and Rs 1000 for subsequent investment

Should I go for SIP?

Of course you should. While SIP doesn't work in rising markets, always remember markets work in cycles. What goes up must come down. So always remember market can go down any time and during these periods, your SIP will start yielding returns.

So hang in there no matter what the market condition is. Remember, equity investment is a long term game.

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