What is a Systematic Investment Plan?
A Systematic Investment Plan or SIP is a smart mode of investing money in mutual funds. SIP allows you to invest a predetermined amount at regular intervals. A SIP is an efficient and systematic way to invest in equity markets and helps you inculcate the habit of saving and building wealth for the future.
How does it work?
A SIP is a convenient and flexible way of smart investing. The money is auto-debited from your bank account and invested into a specific mutual fund scheme that you choose. You are allocated certain number of units based on the ongoing price (called NAV or net asset value) for the day.
Every month when the bank account is debited, additional units of the scheme are purchased at the prevailing rate of the scheme and added to your unit account. Hence, units are bought at different rates and thus the investor benefits from Rupee-Cost Averaging and the Power of Compounding.
Rupee Cost Averaging
In volatile market timing the entry is the most difficult decision that any investor deals with. Rupee-cost averaging allows you tiding over the decision when to invest. The concept simplifies the approach – your money fetches more units when the price is low and lesser when the price is high. During volatile period, it may allow you to achieve a lower average cost per unit.
Power of Compounding
The rule for compounding is simple – the sooner you start investing, the more time your money has to grow.
If you start investing Rs. 10000 a month on your 40th birthday, in 20 years time you would have put aside Rs. 24 lakhs. If that investment grew by an average of 7% a year, it would be worth Rs. 52.4 lakhs when you reach 60.
However, if you started investing 10 years earlier, your Rs. 10000 each month would add up to Rs. 36 lakh over 30 years. Assuming the same average annual growth of 7%, you would have Rs. 1.22 Cr on your 60th birthday – more than double the amount you would have received if you had started ten years later!
Other Benefits of Systematic Investment Plan
Disciplined Saving – When you invest through SIP, you commit yourself to save regularly.
Flexibility– Investors can discontinue the plan at any time. One can also increase/ decrease the amount being invested.
Long Term Gains – Due to rupee-cost averaging and the power of compounding SIPs have the potential to deliver attractive returns over a long investment horizon.
Convenience – SIP is a hassle-free mode of investment. You can issue a standing instruction to your bank to facilitate auto-debits from your bank account.
SIPs have proved to be an ideal mode of investment for retail investors who do not have the resources to pursue active investments.