Myths of Systematic Investments(SIP)

What is a Systematic Investment Plan (SIP)?

SIP is a method of investing a fixed sum, regularly, in a mutual fund. It is very similar to regular saving schemes like a recurring deposit.

An SIP allows you to buy units on a given date each month, so that you can implement an investment / saving plan for yourself. Once you have decided on the amount you want to invest every month and the mutual fund scheme in which you want to invest, you can either give post-dated cheques or ECS instruction, and the investment will be made regularly. SIPs generally start at minimum amounts of Rs 1,000 per month and the upper limit for using an ECS is Rs 25000 per instruction. Therefore, if you wish to invest Rs 100,000 per month, you may need to do it on 4 different dates.

As is customary, I started with describing the concept of an SIP. Let us break some myths on SIP now.

Investment in equity mutual funds or unit linked insurance should always be done in SIP mode: I remember in 1999 when Templeton Mutual fund would talk about SIP – the market looked at it skeptically. And it took a lot of convincing for customers to accept it. Now, life has come a full circle. Everybody wants to (always) invest using an SIP. If you have the maturity and calmness to realize that equities are for the long term and are willing to give your funds about 10 years, and you have a lump sum, you can afford to give the SIP route a pass. However, if your horizon is less than five years, you must do an SIP.

I do rupee cost averaging in a single equity – that is a kind of SIP is it not? This is a question I face every day. No, a rupee cost averaging in a single scrip cannot be equated to an SIP. When the market brings down the price of a single scrip, it is giving you information. You need to react to that.

Let us take 2 examples – Lupin Laboratories – has moved from a high of Rs 700 to Rs 100 and back to Rs 700. The question to ask here is not whether an SIP would have worked. The question to ask is whether you would have had the stomach to continue the SIP through this period. Silverline Technologies moved from Rs 30 to Rs 1300 to Rs 14! In this case, if you had started an SIP at a price of Rs 1300, today you would be licking your wounds. SIP works in a portfolio, not in a single scrip.

You cannot invest a lump sum in the same account in which you are doing an SIP: Many people assume that if they are doing an SIP in a particular fund, and suddenly they have a surplus, they cannot put that lump sum in that account. Fact is, in case you are doing an SIP of Rs 10,000 per month in an equity fund, and suddenly you have a surplus of Rs 100,000 and clearly you have a 10-year view on the same, then you can just push it into your SIP account. SIP is just a payment mode, not a scheme!

If I miss investing for a particular month, will they prosecute me? Now, this is the fear of EMI that people have. In an SIP you are buying an investment every month (or quarter), there is no question of prosecuting you for missing one investment. As a matter of discipline, you should not miss any month; however, missing one month’s investment is not a crime!

When you have a surplus (accumulation stage of your life) you should do an SIP and during retirement you should do a Systematic Withdrawal Plan (SWP): No. You should ideally keep your withdrawals only from an income fund or a bank fixed deposit. You should sell an equity fund on some other basis, say deciding to sell 20% of your portfolio in a year so that the return is 4 times the 30 year historic return. SWP, by definition cannot work in an equity fund!

SIP works for everybody, but does not work for me: Another myth. SIP works in a well-diversified equity fund in the long run. When people put forth arguments that it does not work for them, they have either not chosen a good fund or are looking at a 12 month horizon.

SIP is only for small investors: Nothing can be farther from the truth. I have a client who has invested Rs 32.66 lakhs using SIP, starting from January 1998 till date. Obviously, he has invested much more in later years as his income went up and the funds together are worth Rs 97 lakhs, substantially higher than his provident fund.

Market is at very high level to start an SIP: I have heard this when the index was 3000 also. I have no clue where the market is headed, but I know SIP works!

All fund houses are now charging a full load on the SIP, so now SIP will not work Why not time the market? Introducing an entry load was expected to happen and it has happened. What actually hurts the retail investor is the asset management charges – 2.5% in most cases is a bigger threat to compounding! (Also read - How to optimize your tax using mutual funds?)

If I do an SIP in a tax plan, can I withdraw all the money on completion of 3 years? Another regular question almost! Every installment has to be with the fund house for 3 years. The lock-in comes from the Income tax rules, which say that a tax saving scheme should have a 3-year lock-in. You cannot escape that by doing an SIP!