Tens of thousands of investors, Reserve Bank of India data show, are making a costly mistake. This is to stop their Systematic Investment Plans (SIP) in equity and balanced mutual funds when the stock market enters a correction phase after a boom. RBI's 2008-09 annual report said around 400,000 investors had closed their mutual fund SIP accounts.
SIP investors like Sudhir Vishwakarma are still waiting for the current volatile stock market to stabilise before they start their SIP investments. Vishwakarma says, "I see little scope of my investments giving any returns in a market that is oscillating between positive and negative closing regularly."
These investors do not realise that continuing SIPs in a volatile or falling market is as important as systematic investments when the market is in a bull phase. For, if a person invests through an SIP, there are good chances that his investments will fall less than a lumpsum investment made at the wrong time. When the market turns around, the investor does not miss the positive rally.
Financial planners say that investors are wary of putting money in equity when the markets are falling. They usually stop all equity-related investments and some even withdraw their investments at a loss. Obviously, these wrong beliefs are reaffirmed when investors find that SIPs underperform a one-time investment in a rising market, which does happen. But, the flip side of this argument is that SIP investments also decline less when markets are bearish (see table).
"What investors do not realise is that lumpsum one-time investments need to be timed, and timing the market is not possible. Nobody can predict when to enter and exit. Whereas, with an SIP, investors can still manage better returns if they stay invested through an entire market cycle," said a financial planner.
This method of investment is more relevant in a market situation like Thursday's. Most of us are bullish about the long-term growth story of the country. While one can expect good returns over the long term, experts suggest it is not going to be a smooth journey. There would be volatile periods like the ongoing one. Investments through an SIP can ensure steady returns. This should be clear if one understands the way an SIP functions.
One can equate SIPs to the recurring deposit. The investor can put in a small fixed amount every month and withdraw it later. It allows the person to participate in the stock market without trying to guess its movements.
In an SIP, the fund allots units for the investments made. This means, when the market rises, the investor gets less units but when markets undergo a correction, he receives higher units. This way, the investor gets to average the cost of his purchase.
Saving small sums every month for a long tenure can work wonders with investments when the money starts compounding. A person who is saving Rs 5,000 every month for 20 years will end up with a corpus of Rs 75.80 lakh if the average return of his investments is 15 per cent.
After the ban on entry load, banks have started taking commissions for one-time investments, whereas SIP investments are done at no cost by some of the banks. This is an added benefit.
The best part is that SIP investments can start as low as Rs 500 per month. But, this does not mean that SIP is only fit for small investors. "The benefit of SIPs is relevant to all classes of investors," said Brijesh Dalmia, director, Dalmia Advisory Services. Even for the high net worth investor, SIPs reduce the chance of investing at the wrong time and losing their sleep over a wrong investment decision.
The benefits of SIP do not stop here. Financial planners say regular investing also ensures financial discipline, key to building and managing wealth over a person's lifetime. "Inculcating this habit is essential for long-term wealth creation," Dalmia said.