SIP: Systematic but Not Safe Investment Plan
Either you control money or money controls you and then it controls your life, freedom, dreams, heart and soul. And, to achieve financial freedom and fulfil your long-term goals, the best argument put forth by mutual funds (MFs), their distributors and financial planners is SIP or systematic investment plan. SIP is generally marketed as a safe and sure route for investments in equities to create wealth over the long term. 
 
SIP is certainly safe for mutual funds and distributors because they get committed continuous money for the long term on which they can earn a fixed percentage of fees and commissions. It is also safe for financial planners to recommend because, if anything goes wrong, they can blame the SIP concept. However, is SIP safe for an investor? This article attempts to examine and bisect SIP in a manner probably never done before. 
 
SIP is nothing but a regular investment plan, mostly monthly or quarterly, of a particular amount in an MF scheme. It is similar to a recurring fixed deposit with a bank. It allows an investor to deposit a small amount at regular intervals instead of a single one-time investment. 
 
Benefits of Investing through SIP
Rupee Cost Averaging: This is supposed to be the primary benefit of investing through the SIP route which has made it so popular among investors. What is the cardinal principle of buying anything in this world? Buy when the price is low. Rupee cost averaging simply does that by automatically buying more units when the price is low and purchasing less when the price is high. This is the primary advantage of a SIP—one on which it is being sold and marketed. But does this really benefit the investor? Read on.
 
Regularity of Investments: SIP regularises the investment process by making it mechanical. It removes human judgement from the decision-making process. It instils discipline in the investor and helps him/her stay focused, investing regularly for the long term.
 
Power of Compounding: Compounding has been labelled the ‘eighth wonder of the world’ and it really is. Very few people realise how powerful compounding is, over long periods– small amounts compounded regularly over longer periods make a big difference in the final results. For example, Rs5,000 invested monthly at 10%pa (per annum) return over a 30-year or a 35-year period would accumulate to Rs1.13 crore or Rs1.90 crore, respectively—a massive difference of Rs77 lakh. Hence, just by starting five years earlier, a person would, ultimately, be able to accumulate Rs77 lakh or 70% more. That is the power of compounding. 
 
The first one, i.e., rupee cost averaging is the general perceived benefit of investing through the SIP route—the other two are advantages of investing through any regular investment method. Now, let us consider that whether SIP is really superior to lump-sum investments or not. 
 
Is SIP Really Superior to Lump-sum Investment?  
Is SIP always superior to lump-sum investment option? Not always. Why? The Nifty is around 10,500 levels today and, if you know with certainty that it is going to become 12,500 after one year, then you would, obviously, be better off buying your entire investment quantity today at the lowest value rather than keep averaging upwards month after month through the SIP route. On the other hand, if you know that the Nifty is likely to go down to 9,000 in the next one year, then forget SIP or lump-sum, you would be richer not investing in equities. Therefore, SIP is not some magic that it will outperform the lump-sum investing method or always give positive returns, even over the long term. So, what are the conditions under which SIP works? 
 
When SIP Works 
Bull or Rising Market: SIP would yield positive results in a bull, or rising, market as every new purchase, although made at a higher cost, is valued at an even higher price, finally. However, as seen earlier, in such a case, it would be wiser to buy the entire investment in one go rather than keep ‘averaging upwards’ through the SIP route.
 
Volatile but Rising Market: SIP should perform well in a volatile but, ultimately, rising, or bull, market. This would be the market in which the ‘rupee cost averaging’ would work most favourably for the investor, as volatility would lead to the best possible average price. The final rising or subsequent bull market would ensure that the end price is higher than the average price. 
 
Market Corrects Downwards and Then Moves Up: This would be another case in which SIP would perform well and, in all likelihood, be better than initial lump-sum investment. This is because the investor will get the advantage of the intermediate correction to lower his average cost.
 
But does this mean that SIP works under all market conditions? Certainly not. So, let us now examine the market conditions under which SIP would not work.   
 
When SIP Does Not Work
Bear or Falling Market: SIP would not work and, in fact, yield negative returns in a bear, or falling, market as every new purchase, although made at a lower cost, would eventually be valued at an even lower price. In such a market scenario, SIP might outperform lump-sum investments as the investor will get the benefit of averaging downwards but the investor will still lose money. I believe, it should be the endeavour of every investor to make money by investing and not simply ‘lose less’. 
 
Sideways Market: SIP would not work in a sideways market, as you will not get the benefit of rupee cost averaging and the final value would be closer to the average cost. In a sideways market, the difference between the performance of SIP and lump-sum might not be significant. 
 
Market Moves Upwards and Then Moves Down: This would be one more case in which SIP would not perform because the investor will actually be hurt by the SIP as he would be ‘averaging northwards’ while the final value would be much lower due to the subsequent market correction. In fact, in this scenario, lump-sum would perform much better than SIP, as it would not be subjected to the negative effects of higher rupee cost averaging. 
 
 
Therefore, SIP might not always be the best investment route. So, now let us examine when it would be ideal to invest through SIP or when as a lump-sum.
 
Common Misconceptions about SIPs
Misconception: SIPs generate higher return than lump-sum investment.
 
 
Truth: As explained earlier, this is just a misconception disseminated by vested interests like MFs and their distributors. SIP can be as good, or as bad, as lump-sum. It depends on which market condition you are in. 
 
Misconception: SIPs always generate positive return over the long term.
 
Truth: There can be nothing farther from the truth. This statement is made under the assumption that equity markets always go up over the long term. If, for whatever reasons, equity markets don’t go up over the long term, there is no way in which SIP would be able to generate positive return. And if equity markets, indeed, always go up over the long term, whether SIP or lump-sum, the investor will always get positive return.
 
Misconception: SIP would always give positive return because of ’rupee cost averaging’.
 
Truth: Rupee cost averaging can work in investor’s favour or against, depending on the market condition prevailing at the time of investment. If it’s a bull market, rupee cost averaging actually works against the investor and vice versa.
 
SIP works on the principle of regular investments and brings the power of compounding. It removes emotions and uncertainty from your investment plan by making it a mechanical, boring process. It inculcates the habit of regular savings and does not encourage timing and speculation in the markets. All these are correct and accepted facts. But, don’t forget that SIP is just another method of investing; it is a vehicle not the final destination. It may pass through straight or bumpy roads; it may lead you to your destination in a lesser or higher time-frame; sometimes, it may not even lead you to your destination by derailing your plan. SIP is just a method of getting on to the investment vehicle to reach your destination. If the vehicle you choose is incorrect, there is less likelihood of you reaching your destination. Therefore, the next time a mutual fund or distributor or financial planner advises you that SIPs are the safest route to invest in equities, remember that they are not lying. It is safest route—but not for you the investor; it is for their own selves.
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    COMMENTS

    Ralph Rau

    1 year ago

    If trend inflation is 6-8% and trend large cap NIFTY growth is 10-12% and SIP continues over 36 months during which time market PE is at its peak range of 24-28 then the SIP is destined to to a be bitter one at the end of the 36 months ?

    Anil K Singh

    1 year ago

    'Lumpsum' the better alternative to SIP is for those who have a corpus that would qualify as a lump sum. Additionally, one should also be a market watcher to time the investment.

    Niranjan Sarkar

    1 year ago

    I think any investor would know that no investment vehicle is "safe". And as for the MF houses and their distributors they will always say that our "toothpaste" is the best. Ultimately investing boils down to how the market move, the time frame of investment and when you put in the money. For average investors with no "insider" information I think a methodical approach is better than an ad-hoc or friend/relative advise or trying to time the market approaches. And that is the cost they pay. This does not of course mean that the SIP investor should close their eyes and forget about their money and expect a "safe" return. In today's scenario, even an FD with a PSU bank may not be safe!

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