When you start investing in assets such as mutual funds, you are presented with two options for making contributions – The first is by a large lump sum payment, meaning you can invest the amount you want to invest in a single go. The other way is through a Systematic Investment Plan or SIP. When you choose to take the SIP route, you commit to making fixed and regular payments, generally monthly, which are then invested in your chosen mutual fund scheme. This method of investing offers many advantages.
In this blog, we’re gonna take a detailed look into the many benefits of investing in SIP and understand why they are becoming such a popular choice for investors in India.
7 Benefits of SIP
Let’s take a look at the top seven sip benefits:
1. Disciplined Investing
To succeed financially in the long term, one needs to have discipline. Since SIP requires you to set aside a fixed amount each month, it instils a habit of saving and investing. For example, if you want to invest Rs. 1,20,000 in a year in a particular mutual fund, you can choose to set a fixed amount of Rs. 10,000 to automatically purchase units on a predetermined date each month for 1 year. With this systematic way, you can make sure that your investment and savings goals are met consistently over time.
New investors may find it a bit overwhelming to save and invest regularly, but they can overcome this by creating a budget. With a budget, one can prioritise savings and spend the leftover income. Another key advantage SIPs offer is flexibility. If you’re struggling with a large investment amount, you can start with a smaller sum and slowly increase it as you develop the habit of saving and investing.
2. Rupee Cost Averaging
To understand Rupee cost averaging, let us first understand the concept of Net Asset Value or NAV. Net Asset Value tells us about the value of the mutual fund. It is calculated by taking all the fund’s assets (such as stocks and bonds) and subtracting any debts or liabilities. Then, this total is divided by the number of units held by investors. So, NAV tells you the price of one unit of the mutual fund at a given time. When the NAV of a mutual fund is low, it means the price per unit of the fund is low. This allows you to buy more units of the mutual fund with the same amount of money. Similarly, when the NAV is high, it means the price per unit is high. So with the same amount of money, you can buy fewer units of the mutual fund.
The NAV of a fund is constantly changing due to market conditions. Sometimes, when you buy mutual fund units, the NAV will be low and you will be able to purchase more units, and other times the NAV will be higher, meaning you won’t be able to buy as many units with the same SIP. Rupee Cost Averaging is a strategy that helps investors average out the cost of investment over time, so it eliminates the need to time the market. Through an SIP, you can invest a fixed amount of money, regardless of the market conditions that impact the fund’s NAV, and average out your investment.
Also Read: Is Monthly SIP Better or Yearly SIP?
3. Power of Compounding
Albert Einstein once famously described compound interest as the ‘eighth wonder’ of the world, saying “He who understands it, earns it … he who doesn’t … pays it.” One of the biggest benefits of investing in Sip is compound interest. So what is compound interest? Well, it is interest that’s calculated not only on the initial principal amount invested but also on the accumulated interest from previous periods (months or years). Simply put, compound interest allows you to earn interest on your interest.
Let’s take an example to understand it better. Suppose you invested Rs. 1,000 for one year at a 10% rate of interest. At the end of the year, you will have Rs. 1,100. In the second year, you won’t just earn Rs. 100 but 10% of Rs. 1,100, which is Rs. 110. So the total amount you’ll have by the end of the second year will be Rs. 1,100 + Rs. 110 = Rs. 1,210. Similarly, in the third year, the interest amount will be 10% of Rs. 1,210 = Rs. 121, and the total at the end of the third year = Rs. 1,210 + Rs. 121 = 1,331, and so on.
If you were earning simple interest, you’d have earned Rs. 100 for 3 years, and Rs. 300 total interest. By compounding, you earned Rs. 331, Rs 31 more than simple interest. Now you may be thinking that this does not seem like much, and you are correct. The power of compound interest is more evident over the long term than in the short. Say you continue the investment for 15 years, through simple interest, you’ll earn 15 x Rs. 100 = Rs. 1,500. But when you compound it, over 15 years you’ll earn almost Rs. 3,200, which is more than double.
With Systematic Investment Plans you can harness this magic of compound interest. The interest you earn gets reinvested and creates a snowball effect over time, allowing you to create a substantial corpus in the long term. As you can see, time is one of the crucial factors that drives compound interest, so it’s important to start investing as soon as you can.
Also Read: What is Power of Compounding and How Does It Work in Investment?
4. Flexibility and Convenience
Unlike a lump sum investment, where you need to have a large amount of investible surplus available to begin, SIPs allow you to start with an amount as low as Rs. 500 per month. On top of that, you can even change the amount you invest monthly. For example, if you get a promotion and want to invest more, you can increase the SIP amount to match your new financial situation. Similarly, if you encounter unexpected expenses such as a big medical bill or a decrease in income due to job loss, you have the flexibility to decrease the SIP amount or pause it temporarily until you’re ready to resume.
You can set the duration for the investment as well as per your short-, medium–, and long-term financial goals and risk appetite. And since you don’t need to concern yourself with timing the market, you can regularly invest on a predetermined date. This is convenient because your investments will be averaged out over time through rupee cost averaging.
Overall, if you are new to investing, SIP is a great way to get started.
5. Affordability and Accessibility
SIPs can be managed online, so they are also highly accessible. You can start your investments online, set the amount you desire and are comfortable with, and choose the date when the amount will be automatically deducted from your linked bank account. This eliminates the need for manual participation so if you have a busy work life, you need not worry about your SIP as it will continue to function smoothly without requiring your constant attention.
As discussed above, SIPs are also very affordable as they allow investors with modest incomes to participate in the market. Earlier people thought of investing as a rich man’s game, but that’s not the case anymore. For as low as Rs. 500, one can start their SIP and increase the amount as their financial condition improves.
Overall, SIP is a cost-effective way to invest as its fees associated are spread over the long term, so you can maximise your wealth gain.
6. Diversification Benefits
Another convenient benefit of SIP is diversification. When you build a portfolio, you have to have a balanced allocation of different assets such as stocks, funds, gold, real estate, bonds, and other assets. This is done to mitigate the risk associated with the failure of one asset class. With SIPs, you can achieve diversification without the need to actively manage multiple assets yourself.
A mutual fund invests in a diversified portfolio of securities, stocks, bonds, and other assets, which are selected and managed by professional fund managers. Not only are you in the hands of an experienced professional who can adapt to various market conditions, but you also benefit from their expertise in selecting and managing a diversified portfolio of assets to minimise risk and maximise wealth.
7. Tax Efficiency
SIP can also offer tax benefits. For example, if you invest in ELSS mutual funds, you can get a deduction of up to Rs. 1,50,000 under Section 80C of the Income Tax Act. This scheme has a lock-in period of three years, which is one of the shortest among other tax-saving instruments, and allows you to grow your health substantially because it invests mainly in equity-related assets.
You can explore different financial products that allow investing through SIP and offer benefits on short and long-term capital gains tax. Investing in such instruments reduces your tax liability and increases your net income, thus growing your wealth and helping you reach your financial goals faster.
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Conclusion
When you invest in a mutual fund through a Systematic Investment Plan, always keep your current financial situation, risk tolerance, investment horizon, and financial goals in mind. A SIP planner can help you make sure your SIP aligns with these factors and maximise its effectiveness in helping you realise your financial goals. Due to the power of compounding interest, it is recommended to start investing as soon as possible, even if the amount is low as the SIP amount can be increased as one’s financial situation improves.
Remember, investing is for everyone, not just people with huge wealth or financial expertise. SIPs are flexible, affordable, and convenient, and while you don’t have to actively and constantly tinker with your portfolio, it is important to conduct thorough research about the mutual funds – their managers, assets, fees, performance history, and overall investment philosophy. Stay informed about your investments, regularly review your financial plan, and think long-term to fully reap the many sip benefits. Watch as SIP makes all your financial dreams come true!
