The SIP (systematic investment plan) route to investing in mutual funds has gained popularity among retail investors in recent years — with good reason. Given that they call for investments in small (and manageable) doses, SIPs inculcate discipline in investing. Additionally, they take away the risks associated with ‘timing the market’ and help investors neutralise the downsides of market volatility (and even benefit from it) by averaging the cost of purchase.
Most fund houses offer monthly SIPs in which an amount can be invested on a specified day every month. A few fund houses also offer more frequent SIPs — weekly or even daily. So, instead of investing, say, ₹5,000 in a fund scheme on the 5th of each month, an investor can alternatively park ₹250 daily through the month in a daily SIP.
The argument advanced in favour of more frequent SIPs is that they will result in better averaging of costs than monthly SIPs do. For instance, if the market tanks the day after a monthly SIP is processed, the investor cannot benefit from the plunge in unit prices. In a daily SIP, however, the investor can reduce this risk of being caught on the wrong foot in a volatile market, as the investment is spread over the month.
How does this happen? Well, monthly SIPs do sometimes get the short end of the stick if the NAVs are higher on the specified date of the investment. If the market is bouncing higher, this reduces the number of units that the investor gets per unit of investment. But over the long run, this is compensated by those occasions when the markets are lower on the SIP investment date. It’s a matter of luck as we don’t know in advance which days the markets may be up or down. That’s why monthly SIPs do as well or as badly as more frequent SIPs.
Many fund houses, therefore, stick with monthly SIP options. Even where they do not offer daily SIPs, investors have the option of opting for systematic transfer plans (STPs), where funds can be moved everyday from one scheme to another — say, from a liquid scheme to an equity one. But with no significant difference in the long-term returns among the various SIP frequencies, this may not be worth the effort. Besides, an STP could have tax implications: returns on debt funds held for less than three years are taxed at the investor’s slab rates.
More frequent SIPs could also mean operational hassles. Most of us received a monthly salary, so it’s easy to keep track of expenses or investments that also go through monthly. With daily SIPs, there is a risk that your bank account gets swept clean because you haven’t kept track of it. If a bank debit fails to go through, it comes at a cost to you. Also, if you are given to frequent checks of your bank statements, you’ll have to sift through pages of daily entries.
Monthly SIPs, by contrast, are simpler and don’t entail too much paperwork. So, you’re probably better off sticking with monthly SIPs. Shifting to more frequent SIPs may not be worth the trouble and has little or nothing to show for it.
The downside of SIPs Having laid out the merits of SIPs investments, it’s fair to point out that they are not worthy of recommendation for every product, investment goal and market situation.
For instance, SIPs work mainly because they help us make large investment commitments in small instalments without feeling the pinch. Even at a nil return, a SIP of ₹20,000 a month adds up to a ₹48 lakh corpus over 20 years.
SIPs also remove the temptation to make foolish investment decisions based on market swings. With lumpsum investments, you may be tempted to jump into funds when the indices are soaring, and stay away when they tank. SIPs help you to plod on, without paying much attention to market moves.
But if this characteristic of SIPs works for you when you are ploughing money into a good investment, it can also subject you to a large opportunity loss if you have signed up for a bad one. With a lumpsum investment, you only make the mistake of picking a dud fund once. With a SIP, you compound it every month, by throwing good money after bad.
Monitoring the performance of your SIP investments closely will help in this case. One good way to avoid big mistakes may be to sign up for SIPs for one year at a time and renew them only after a yearly performance review. It’s inconvenient, but far safer.
Not for all products Since SIPs seem to work well to create wealth in equity funds, market participants and advisors recommend them for all kinds of other products. Brokerages now offer monthly SIPs on your favourite stocks and thematic Exchange Traded Funds.
But SIPs in individual stocks can expose your portfolio to concentration risks. When you make a one-off investment in a stock, you can easily limit that exposure by buying it in limited quantities. But if you sign up for a SIP in a stock, it can grow to become a very large proportion of your portfolio without your realising it.
The shortlist of the stocks that you buy changes a lot with market conditions and economic cycles. No stock is a perpetual ‘buy’ at any price. Therefore, when you sign up for stock SIPs, you are subjecting yourself to even greater risks from poor choices than with equity funds.
SIPs are equally inadvisable for thematic funds and sectoral ETFs such as banking funds, CPSE ETFs or pharma funds, for instance. This is because the fancied themes and sectors in the market typically keep shifting based on macro and business cycles. To make the most of these, an investor should have a keen sense of timing: investing when the theme is out of favour and exiting when it is at the overbought.
SIPs do precisely the opposite. They deprive you of the benefits of timing by dribbling equal sums into a sector or a theme throughout the cycle. Thus, if you sign up for SIPs in thematic or sectoral funds, you are likely to miss the bus on the upside and keep investing long after the theme has stopped performing. If you have surpluses to invest every month, stick to SIPs in diversified equity funds with a good record, and don’t play the thematic flavour of the season.
Not for all markets While SIPs are good at ensuring regular investments, they don’t improve your returns compared to lumpsum investments, in all kinds of market situations. Deciding between lumpsum investments and SIPs is a matter of assessing whether markets have higher downside or upside from your starting point. While that is not easy, broad market valuations can be a good guide.
When Indian markets trade below a Price-to-Earnings (PE) ratio of 15, a lumpsum may create far more wealth than a SIP. But at a 22 PE, it’s safer to stick to SIPs.