Take a SIP to cut your lump-sum investment risks

All financial advisors worth their salt will recommend that a systematic investment plan (SIP) route is the time-tested, sure-shot way of making returns from investment in equity mutual funds.

This, of course, makes sense when the underlying trend is upward, as no one wishes to put money in a losing cause. The current European crisis will result in your getting jittery and wanting possibly to stop your regular SIP investment. My simple advice to you is: Don’t.

Since the start of this calendar year, the 50 stock Nifty has moved down 500 points in the first five weeks (from 5,200 levels to 4,700 levels in early February), only to rise by 650 points in the next two months, followed by a 350 point fall in the past four weeks.

In fact, at current levels of 5,000 Nifty, we are at the same point that we were in September/October 2009. Hence, an entrant into the stock markets in end September 2009 has made nil returns in the past nearly eight months.

SIP explained

If you think of a SIP as opposed to a gulp, you will realise that a SIP is different from a lump-sum entry into a mutual fund. Since equities are a volatile class of asset, we normally use SIP in equities. However, this option can also be utilised for entry into debt. In fact, SIP is an ideal method to average out the entry levels with the objective of reducing risks of lump-sum investments.

Back testing some recent data

While the intention of investing in equity funds is for the long term, it is always useful to see how the discipline of SIP would have benefited you, the investor, in the recent past.

For this, I have assumed that you could have invested in two equity funds — one, a large-cap fund and the other, a mid-cap scheme, on a weekly basis (Rs 1,000 each week) from July 2009 and the values are as of May 17, 2010.

As you will see from the table (above), the mid-cap scheme has comfortably beaten the large-cap one, but that’s a wrong way to compare schemes. It may be more prudent to see how the scheme has performed versus its self-proclaimed benchmark.

Cutting the emotional aspect from investing

If you can cast your eye back to the period that we are referring to, there would have been times when you would have been jittery to write out your investment cheque. For investing in a SIP, you need to write out your first cheque, and then issue instructions for an auto debit from your bank account.

Operationally, it works just like payment of the EMIs, and ensures that you do not have a bloated bank account. So, while international markets shiver and India will catch some bit of a cold, investing through an SIP in equity mutual funds will ensure that I am not left out of the equity markets.

After all, the long-term for Indian equities does seem rosy and we would want to continue participating in the upsides through the SIP route.

Source: http://economictimes.indiatimes.com/personal-finance/savings-centre/analysis/Take-a-SIP-to-cut-your-lump-sum-investment-risks-/articleshow/5955971.cms