SIP vs lumpsum investing: What works better?
Mimi Partha Sarathy, MD, Sinhasi Consultants
The concepts of SIP investing vs. lumpsum (one-time) investing are two excellent methods of investing. They actually complement each other and go hand in hand.
Systematic Investment Plan – (SIP)
SIP investments are a disciplined form of investing where you are literally forced to save every month. Here, deductions are made automatically from your bank account into the chosen equity mutual fund investment, on a specific date for a specific period. In this method of investing, you will invest in the markets during higher levels as well as lower levels, and therefore, you will get a weighted average return over a period of time.
For this, you will also have to follow some simple steps. Firstly, based on how much you can save, choose the amount that you want to invest periodically into the target equity mutual fund. Once the amount is chosen, it remains the same irrespective of whether markets go up or down. For example, if you decide to do a monthly SIP of Rs 10,000 into an equity MF, then on a specified date, say, 5th, 10th or 25th of every month, you will invest Rs 10,000. Every month the net asset value (NAV) of the fund will change as per the fund’s performance and prevailing market conditions.
By investing regularly, you will buy fewer units when NAV is high and more units when the NAV is low. Here’s a simple example. Let’s assume you will start an SIP of Rs 10,000 when the NAV is Rs 275.81 per unit, you can accumulate 36.26 units (Rs 10,000 / Rs 275.81). In the next month, if the NAV goes up to Rs 470.87, then you would get 21.24 units but if the NAV goes down to ?246.13, you would get 40.63 units.
Below is a graph that shows you the SIP investments made for three years into HDFC Equity Fund. How many units you would have got every month is shown in green.
There are flexible SIPs, too, where instalments can be changed depending on the prevailing market levels. So, when the markets drop, the instalment amount automatically goes up (that also leads you to buy more units). SIPs basically are an excellent vehicle for an investor to invest regularly.
Lumpsum or (One Time) Investment
A lumpsum investment is done when the entire amount in invested at one go into a chosen equity mutual fund. Lumpsum investing strategies are mostly done by more educated investors who have a better understanding of the markets and current valuations or investors with the financial advisor who understands equity market behaviour.
When to use these two strategies
- Lumpsum investments earn the best results when done as follows:
- When valuations of the shares and markets are low.
- When markets P/Es and specific stock P/Es are low.
On days when markets correct sharply or when there are panic situations in the market, micro and market environment.
For example, the Nifty Bees stood at 537 on August, 2013 and, at 785.38 on March 30, 2016, up 46 per cent. If you had invested a lump sum of Rs 10 lakh in August 2013 in Nifty Bees, you would be sitting on a corpus of Rs 14.625 lakh today.
Many investors may panic when the markets start falling or edging lower and may withdraw the investment or not add some more to equity investments. Both this is not beneficial for the investor. If you have a well qualified financial advisor with you or if you are a well-informed investor yourself, you will actually add more money during these times for you to get overall high weighted average returns over a longer period of time. The weighted average returns will go up because you entered at the lower levels of the market so you will have base effect.
Combination of lumpsum investments done during the lower levels of market along with SIP investing is sure to give a sound weighted average XIRR return over a 3-5 year period. This can be executed only if you have strict discipline, are well informed about the markets and don’t panic.
Of course, it is impossible to invest exactly at the bottom of the market. The key to successful investing is actually very simple – buy cheap and sell high and also be disciplined about investing.
The author is Managing Director, Sinhasi Consultants Pvt Ltd