SIP is an acronym that stands for Systematic Investment Plan. As the name suggests, it is a plan in which an investor invests funds regularly, as agreed by the parties. These payments generally involve the same amount.
Where is the Money Invested in a SIP?
An investor provides the funds to a mutual fund, stockbroker, or a trader who further invests the same on behalf of the investor.
This system enables a person to invest small amounts on a regular basis and make a large investment. Specifically designed for people who cannot pay gigantic quantities in one go, a SIP provides them exposure and benefits of multiple assets.
Eventually, over the course of time, a stakeholder is able to build a rewarding, strong, and diversified portfolio.
How does SIP work?
The mechanism of a SIP is quite easy to understand:
- You need to consult a mutual fund to avail of the benefits of SIP. Further, you can choose the type of diversification you desire based on your risk appetite.
- You pay a mutually agreed sum to the Mutual Fund, which further invests the amount to grow its value.
- A Systematic Investment Plan exposes you to regular ups and downs of the stock market. It is a continuous process. The promised sum may help you acquire control over a larger amount of shares on a particular day and might reduce your investment value when the market is down. Such ups and downs are a part and parcel of investing in SIPs.
- A broker allows you to pick a regular plan. Whereas a mutual fund company enables you to have a direct method.
Things to Consider Before Investing in SIPs
Before investing your funds in a SIP, you must contemplate the below-mentioned factors:
An investor should analyze the worth of a particular security and the tenure he should invest in via a calculated approach.
Though SIPs are flexible yet, it does not imply investing without a thorough breakdown of the security. A systematic investment plan yields better returns if an investor prepares a long-term goal.
Critical and utmost necessary to review is to what extent you can digest a loss. You must analyze the age, employment factors, and needs before making investments.
When you withdraw your investment, a particular amount is levied as the exit load. Every NAV that you withdraw shall be charged with the same.
Your exit load must not be equal to or more than the profit you gain. Otherwise, that investment becomes a burden rather than an asset.
Systematic Investment Plans may become a burden when the NAV degrades. In a more straightforward language, an investor shall have to put in the regular funds immaterial of the security’s performance.
That is why they are termed passive investments. A strategic procedure to move forward shall help an investor benefit from both ends.
Benefits of investing in a SIP
Power of Compounding
When a person invests their finances in a particular fund, the investment yields some return in the form of dividends, rent, or interest.
But, when the returns start giving you further returns, it is known as a compound investment. In a SIP, your returns get reinvested, giving you a dual advantage.
These returns keep on developing over the course of time, and before you know it, they add up to a massive fund. Compound Returns build wealth and help to fight inflation.
Low Initial Investment
As stated earlier, SIPs are flexible, and the amount to be deposited can be agreed upon mutually. It can be as low as Rs. 500 per month.
You can raise the degree of investment over time. Mutual Funds put forth the chance to increase their SIPs. A flexible investment helps you to manage your expenses and savings.
Flexibility is convenience in itself. The installment method assists in creating a healthy balance of expenditure and investment in an economy.
Given the chance of elasticity, the total investments increase, which leads to a flow of money in an economy, leading to a higher growth rate.
Not only is it convenient to invest, but also it lessens the burden for an ordinary man.
Rupee Cost Averaging
The theory propounds that you shall buy a better quantity of shares with a given amount, one day of a month, than the other day of another month. The concept averages the net annual value of the security.
When the NAV is high, fewer shares are bought with the specified amount and vice versa. In simple terms, this averages out the entire system of your purchase cost over the total tenure.
The discipline of Investing
A SIP inculcates an essential need of the economy. It circulates wealth in the ecosystem and maintains a robust balance between expenditure and income.
SIPs instill a discipline for investment in every individual, no matter how meager the investment is.
Disadvantages of Investing in a SIP
Not Suitable for People With Unpredictable Cash Flows
A SIP may enable extreme comfort, but at the same time, it is equally domineering. People with unpredictable and volatile cash inflows are not recommended to play with a systematic investment plan.
SIPs ask for non-negotiable timely monthly payments.
Stopping Intermediate Payment in SIP
Suppose your expenses in January exceeded your budget. A prudent man shall be reluctant to invest any leftovers in such a case.
Under a SIP, such an option is not available. An investor does not have the power to skip or delay their payment.
They can neither stop the intermediate payment nor postpone it to the next month.
Limited Options of SIP Dates
SIP undeniably empowers a man to invest. As encouraging as this is, SIP also restricts the financial framework of an investor.
You must pay until the due date to avoid severe aftermaths. The date entered by the parties in the contract must be adhered to anyhow.
An investor can set up a system of automatic payments. In this manner, he can prevent the consequences arising from delayed installments.
Since SIPs offer paramount gains, it is understandable if they limit the investor with a few boundaries.
All in all, systematic plans are an excellent option for people who have an authentic and accountable source of finance inflow.
Moreover, you should read all the documents thoroughly to elude conflict of interest later.