Systematic investment plan




Systematic investment plan (SIP) is an investment vehicle offered by mutual funds of investors, allowed them to invest small amounts periodically instead of lump sum. The frequency of investment is usually weekly, monthly or quarterly.

In SIP, a fixed amount of money is debited by the investors in bank accounts periodically and invested in a specified mutual fund. The investor is allocated a number of units according to the current net asset value every time is sum is invested, more units are added to the investors accounts.

The strategy claims to free the investors from speculating in volatile markets. As the investor is getting more units when the price is low and less units when the price is high, in the long run, the average cost per unit is supposed to be lower.

SIP claims to encourage disciplined investment SIP, are flexible, the investors may stop investing a plan anytime or may choose to increase or decrease the investment amount. SIP is usually recommended to retail investors who do not have the resources to pursue active investment.

SIP investment is a good choice for those investors who do not possess enough understanding of financial markets. The benefits of SIP is it reduces the average cost of units purchased, as well as consistent investment, ensures that no opportunity is missed arising out of the market.

Advantage of SIP

1.   Averaging the costs

Mutual funds are increasing educating investors on the need for investing through SIP. The mechanism of investing in the scheme is through regular monthly investments. The one advantage cited by analysts, fund managers and investment advisors, is that you can gain by averaging costs in a declining  market and spreading your risk.

In India, rupee cost average is followed. Rupee cost averaging simply does that by automatically buying more when the price is low and purchasing less when the price is high. This is the primary advantage of a SIP on which it is being sold and marketed. This may not always bring benefits to the investor.

2.   Investment is small amounts

Enables investors to invest small amounts of funds at regular intervals rather than in lump sum. Under SIP an investor can make small investment by investing a fixed amount at a fixed time interval in a given mutual fund. Generally, investors prefer to make investment regular investment with a time gap of mostly one month.

In SIP, the investor regularly invests a small amount of money over a period of time.  The investment is made on pre-set dates and the amount is also predetermined. With regular investment, he can grow a sizeable corpus over a period of time. It can be started with an investment as low as Rs 500. It is usually recommended for salaried individual or investors with low income.


3.   Regularity of investments

SIP regularized investment by making it is mechanical boring process which is what it is supposed to be. It removes human judgment from the decision making process. It instils discipline in the investor and helps him stay focused, investing regularly for the long term.


4.   Liquidity

SIP are invested in open-ended mutual funds. The investors can invest and withdraw the funds, if the need for liquidity arises. This means, SIP provides the benefit of liquidity to the investor.


5.   Flexibility

SIP offer flexibility in investment. An investor can increase or decrease the amount of investment depending upon circumstances as far as the availability of funds are concerned.


6.   Convenience to the investor

The investment in SIP offers convenience to the investor. The investor need not waste his time and effort in investing under SIP.

It is very easy to set up and monitor SIP. After the initial formality, the amount will be deducted directly from the bank on the specified date. So it saves the trouble of manual investment.


7.   Investment Discipline

The investment in SIP is in the form of weekly, fortnightly, monthly or quarterly instalments, they tend to instil a certain level of investment discipline in the investor in terms of regular savings and investment. For example, you decide to do a monthly SIP of RS 2000 in a hybrid fund. On a specified date, let say, 7th 10th or 15th of every month, this amount will be auto debited from your bank account through ECS (electronic clearing system) or PDC (post dated cheques).


8.   Mitigates risk

With SIP, investment is done at regular intervals over a long period of time, it tends to beat the market volatility. Furthermore, when market is up, more units are bought and lesser when it is on a decline. The rupee cost averaging evens out the volatility.


9.   Tax free return

Investment in SIP given tax free returns. This is because SIP investment are done only in mutual funds, which give tax free returns. In the case of fixed deposits in banks, the returns are taxable.


10.  Compounded return

Investment in SIP results in compounded returns. Yearly returns are added to the principal amount, the compounded principle amounts become higher than the actual principle amount invested in SIP. The returns are calculated on the compounded principal amount, and in the long run returns from SIP are higher.



Disadvantage of SIP


1.   Unsuitable for irregular income flow

This method is not suitable for investors who do not have reliable and regular cash flow as the investment is to be made at predetermined intervals. One may invest in small amounts as low as Rs 500 per month.


2.   Problem of uniform investment

An investor cannot immediately change the amount being invested in response to the ups and downs in the market. This keeps the investors from taking advantage of the upswings.


3.   Insufficient funds

If an investor fails to maintain adequate balance in the bank on the day of debit of SIP, the PDC or ECS as opted, will return dishonoured. This means that the investment will not happen that month.


4.   Bull or rising market

SIP would yield positive returns in a ball or rising market as every new purchase, although made at a higher cost, is ultimately valued at an even higher price. As seen earlier it would be wiser to buy the entire investment lump sum rather than keep averaging upwards through the SIP route.


5.   Volatile but rising market

SIP should perform well in a volatile but ultimately rising or bull market. This would be the market kind for the investor as the 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.


6.   Market in median range, corrects downwards and then moves up

This would be another in which SIP would perform well and in all likelihood better than initial lump sum would perform well and in all likelihood better than initial lump sum investment. This is because the investor will get the assistance of the intermediate correction to lower the average cost.