This is a simple strategy for accumulating wealth over a period of time by investing regularly at a fixed interval of time in mutual fund schemes, this is similar to the concept of recurring deposits scheme, but this being in equity come tagged with relatively a higher return (and higher risk) than the recurring deposit.
How does SIP work?
An investor commits to invest a specific amount for a particular period at regular intervals, this ensures that he gets more units when prices are lower and lesser units when prices are high. This works on the principle of rupee cost averaging when invested at different levels and automatically participate in the swing of the market.
Advantages of Systematic Investment Plan
» Power of Compounding
"Compound interest is the eighth wonder of the world. He who understands it, earns it... he who doesn't... pays it." - Albert Einstein.
To avail the benefit of power of compounding one has to start early and invest regularly. At an early stage, a less investment needed and your money gets more time to grow. Where as more investment is needed at a later stage to accumulate the same planned corpus.
» Rupee-Cost Averaging
It means averaging the cost price of your investments. The biggest advantage of SIP is that one need not time the market.
SIP helps in averaging the cost as equal amount is invested regularly every month at different NAVs. SIP works well in a volatile market as in the months where markets are down you get more number of units as the NAV is down and when the markets are up you get less number of units. But over all, the prices gets averaged out.
Let us see how: Say you make your first investment of Rs 1,000 at a NAV of Rs 10. In this case, the units acquired will be 100 (1,000/10). You make the second investment of Rs. 1,000 at a NAV of Rs. 9. Units acquired now will be 111.11 (1,000/9). Now you make the next investment of Rs 1,000 at a NAV of Rs 12 and units acquired now will be 83.33 (1,000/12). So after 3 months, the average purchase cost works out to be Rs. 10.19 (3,000/294.44).
It is very easy to start an SIP, you need to plan your saving wisely and keep aside some amount of money every month for investing. Investment can be done either by post dated cheques or through ECS instructions. Redemptions too are as easy as redeeming a bank RD and takes 2 working days at max.