labels: investment - general
Frequently asked questions on SIPnews
Uma Shashikant
19 December 2005

What is a Systematic Investment Plan (SIP)?
An SIP is simply what its name suggests; a method of investing a fixed sum, regularly, in a mutual fund. It is very similar to regular saving schemes like a recurring deposit. An SIP allows you to buy units on a given date each month, so you can implement a saving plan for yourself. Once you have decided on the amount you want to invest every month and the mutual fund scheme in which you want to invest, you can either give post-dated cheques or standing instructions to your bank, and the investment will be made regularly. SIPs start at minimum amounts of Rs 1,000 per month.

Note: This graph and the performance numbers have been shown for illustrative purposes only. Past performance may or may not be sustained in the future.

The performance of an investment depends on correctly timing it. Should one therefore not invest at an opportune time?
When we look at history, we can always say when we should have bought and when we should have sold. In reality, it is tough to say which is the right time. When the market is up, everyone is keen to buy, and they often end up buying at a high price. When the market is down, people panic and hurry to sell. Therefore, while the ideal is to buy low and sell high, in reality, many investors end up buying high and selling low. The better choice is to invest without taking a call on the 'right time'. An SIP allows you to do this. The advantage is that you will capture the movements of the market, having invested at every level. Consider this data:

Return on Sensex investments from July 1979 to April 2004: 20.36 per cent
Return excluding the top 10 best performing months: 9.29 per cent

In your timing adventure, if you missed being in the markets when they were doing well, you would miss the cream of the return. Therefore, rather than timing the market, investing month after month will ensure that you are invested at the high and the low, and make the best out of an opportunity that could be tough to predict in advance.

An SIP enables you to be present in the market, month after month, and participate in the market.

How does a SIP work when the market is moving up and down?
The SIP is a nice method to reduce your average cost, even as you deal with fluctuating markets with relative ease. When you invest a fixed amount every month, the number of mutual fund units you actually buy depends on their market price. Therefore, with the money you invest each month, you can buy more units when the market moves up and less units when the market moves down.

This means you are averaging out your cost. If you invest Rs1,000 a month at a price of Rs20 a unit, you will have bought 50 units (1,000/20). But at a price of Rs10 per unit, you will have bought 100 units (1000/10). Investing a fixed sum regularly, means averaging out the cost, as you get fewer units when the price goes up and more when the price goes down.

Note: This graph and the performance numbers have been shown for illustrative purposes only. Past performance may or may not be sustained in the future.

Is an SIP only about equity market and investing without indulging in market timing?
An SIP is about sensible equity investing and more. You can use it as a tool to set aside funds for your financial goals. If you plan to save for your child's education and if you had started an SIP in the PruICICI Child Care (study) Plan, an investment of Rs1,000 a month would have grown to Rs43,109 in the 36 months since the inception of the scheme. A word of caution here; the past performance of a fund may or may not be sustained in the future.

Your goal could be anything - from planning for a dream foreign vacation, saving for a home or funding your retirement. An SIP enables you to set aside money, month after month, and usually gives much better returns than a bank recurring deposit.

How does this work in the long term?
Suppose you decided to invest Rs1,000 every month in the BSE Sensex, from its inception date in April 1979. You would have invested Rs1,000 every month. The amount of money you would have invested until July 2004, is Rs302,000 (Rs1,000 over 302 months). The value of that investment as on July 1, 2004, would be Rs2,771,243. That is an annual compounded growth rate of 14.8 per cent.

From your monthly earnings, set aside some money for yourself, using an SIP, and see the benefits of long term investing it would bring for you. Notice also, in the picture alongside, how your money buys you more units when the market is falling, and fewer units when the market is moving up.

How can I start a SIP?
It is simple. Begin your investment with an initial investment and have your folio opened. Issue post-dated cheques / standing instructions to invest a regular sum every month. This amount could be anything from as low as Rs1,000 upwards. Your investments will happen on the preset date every month.

also see : In search of the right time to invest

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Frequently asked questions on SIP