Systematic Investment Plan - Part 1

Over the past couple of months, equity investors in India have seen their fortune swing back and forth. Concerns over sub-prime lending in the US and its spill over in India, yen-carry trade and the possibility of a US slowdown and the recent PN issue in India not only cause wild swings in the domestic and global equity markets, but also raised doubts among several retail investors on the course of the markets in the short- to- medium-term and over the long term.

A retail investor like in most times is always confused as to whether it is the right time to enter the markets or should one expect some more corrections? Unfortunately, no one can predict the course of the market. For a retail investor, timing the entry or exit is a difficult act to follow. The best way to survive a volatile market is to keep investing in equities and stay put with a long-term horizon. This is where Systematic investment plan or SIP comes into the picture.

SIP (Systematic Investment Plan)

For the retail investors, the systematic investment plans (SIPs) is the best method to stay invested without bothering too much about the market ups and downs. Ideally one should be looking at an SIP in mutual funds (better than direct investment as one does not the fundamentals of the stock, industry etc) and also should ensure that the frequency of the SIP is not monthly but atleast 2-4 times a month. Through regular investing, one gets to invest in the highs as well as the lows. This helps in averaging out the market volatility especially if there is too much volatility within the month. The investor keeps investing a certain amount (even as small as Rs 50 in case of some mutual finds) at regular intervals. As the market soars, even the value of the investment scales new highs. And when the market tanks, the value of the mutual fund units — the net asset value (NAV) — too comes down. This means more units are bought for the same SIP amount.

SIP has the following advantages

1. It inculcates the discipline to invest regularly
2. Generally provides good returns over longer periods of time
3. The long term nature of the investment provides for capital gains tax on te returns made.
4. When the markets are up, it buys lesser number of units and when the markets are down, it provides for the purchase of a larger number of units thus providing a mechanism to constantly accumulate the units.
5. SIP avoids the risk of locking in to one single valuation and facilitates one to get an 'average' of the valuations on the various dates that one invests.

In the next part of this series, I will explain the procedures that one needs to adopt to participate in a SIP, what kinds of mutual fund schemes exist etc