Systematic Investment Plan - Part II

In part 1 of this series Systematic Investment Plan - Part I, you must have seen the benefits of Systematic investment plan (SIP). SIP is very helpful in a volatile market. Since you invest a fixed amount, you buy more of the security when its prices fall and less when it is more expensive.

In this post, I will explain the formalities to be completed on the ground to establish an SIP for a mutual fund.

All mutual funds define the dates on which you can make the regular investments (typically 1st/7th/15th/21st of every month). If you are a salaried employee, you will realize that you have surplus monthly savings and hence this can become a preferred option for you. Let us say that you receive your salary on the 1st of the month and hence you can make the investment every 1st of the month.
Along with the other details that are required to open the mutual fund, one has to fill the SIP application form and inform the mutual fund that you want to invest on specific date of every month. If that date happens to be a holiday, typically it gets executed on the next business working day.

Almost all mutual funds provide a direct debit facility in the form an Electronic Clearing Scheme (ECS) with the major banks: this means that one can sign an order giving details of the MICR code, bank name etc to be executed by one’s bank that one is giving an authority for the mutual fund company to take a specified sum of money from their bank account on specified dates for a specified period (Typically the period of time is anywhere between 12-18 months and one has to ensure that the SIP continues even after this period by getting in touch with the mutual fund company to keep the SIP alive). In most cases the cheque from where one makes the initial payment is good enough for the details that one needs to provide for the SIP. This saves one the hassle of signing post dated cheques or sending cheques on a periodic basis to the mutual fund.

In case of redemption of the units of the fund, the same account from which the debit is made will be credited reducing the hassle of getting a cheque and then depositing a cheque.

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