What is SIP and How It Works?

What is SIP and How It Works?

A Systematic Investment Plan (SIP), popularly known as SIP, means a facility offered by mutual funds to the investors in which investment can be made in a disciplined manner. This facility permits an investor to invest a fixed amount of money at intervals which are pre-defined in the selected mutual fund scheme. Pre-defined SIP intervals depend on the investor and can be on a weekly/monthly/quarterly/semi-annually or annual basis.

By taking this route to investments, the investor gets an opportunity to invest in the time-bound manner. He/she can invest without worrying about market dynamics and can benefit over long-term because of average costing and power of compounding. SIP continues to gain popularity among Indian MF investors and its very convenient as investors can give their bank standing instructions to debit amount every month (depending upon the period an investor selects).

How SIP Helps in the Power of Compounding?
When an investor invests regularly through SIP and for the long term, the benefits get magnified due to the compounding effect. The Compound effect ensures that investors earn returns not only on the principal amount (which is the actual investment), but also on gains on the principal amount. Simply put, investor’s money grows over time as the money that investor invests earns returns. And the returns are also able to earn returns.

How SIPs Work?
Every time an investor invests in the mutual fund scheme through the means of SIP, investor purchases a certain number of fund units corresponding to the amount invested. Investors are not required to time the markets when they choose the SIP route as they benefit from both bullish and bearish market trends.

When there is a downfall, investors purchase more fund units, while an investor purchases fewer units when the markets go up. Since NAV of mutual funds are updated daily, cost of purchase varies from one SIP instalment to another. Over the long-term, the cost of purchase averages out and turns out in favor of the investor. This is meant by rupee cost averaging.

Learn more about here: How Does SIP Work?

Through SIP, investors can get started with a small amount of investment and can get significant returns over the long run. It is simple and most convenient way of investing in mutual funds. Other benefits of investing through SIPs include convenience, 2x higher returns than RD, ease of investing, can be considered as an emergency fund, etc.

Why a delay in SIP can be costly?
Starting the SIP process late can be costly for one major reason. Late investors are not able to fully capitalize on compounding benefits. Compounding means reinvesting the return one earns on the invested amount. This can help investors to earn more income. Time is money is particularly true in this case. Compounding basically accelerates growth of investments over a longer period. 

That is why it is being said that “Earlier you start the SIP and the longer you stay invested, the more returns you get on investments.” Early investors can unleash the power of compounding to the fullest. 

Another reason for starting the SIP process early is that you get more time to average out on your investments. Early investors will be in a much better position to benefit from market downfall than late investors.

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