Systematic Investment Plan
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A Systematic Investment Plan (SIP) is a vehicle offered by mutual funds to help you save regularly.
It is just like a recurring deposit with the post office or bank where you put in a small amount every month. The difference here is that the amount is invested in a mutual fund.
The minimum amount to be invested can be as small as 
100 and the frequency of investment is usually monthly or quarterly.
[edit] How an SIP works
An SIP allows you to take part in the stock market without trying to second-guess its movements. It is also known as Dollar Cost Averaging.
An SIP means you commit yourself to investing a fixed amount every month. Let's say it is 1,000.
When the Market price of shares fall, the investor benefits by purchasing more units; and is protected by purchasing less when the price rises. Thus the average cost of units is always closer to the lower end[see Dollar cost averaging].) { NAV : Net Asset Value , or the price of one unit of a fund. Can be computed as follows : NAV = [ market value of all the investments in the fund + current assets + deposits - liabilities ] divided by the number of units outstanding.}
| Date | NAV | Approx number of units you will get at 1000 |
|---|---|---|
| Jan 1 | 10 | 100 |
| Feb 1 | 10.5 | 95.23 |
| Mar 1 | 11 | 90.90 |
| Apr 1 | 9.5 | 105.26 |
| May 1 | 9 | 111.11 |
| Jun 1 | 11.5 | 86.95 |
Within six months, you would have 5,89.45 units by investing just 1,000 every month.
Over the long run, you may make money or lose
Let's say you invested in a Mutual Fund unit during the dotcom and tech boom.
Say you began with 1,000 and kept investing 1,000 every month. This would be the result:
Investment period
- Mar 2000 � Mar 2005
Monthly investment
1,000
Total amount invested
- 61,000
Value of investment of Mar 7, 2005
- 1,09,315
Return on investment
- 23.87%
Had you bought the units on March 13, 2000 at 10.88 per unit (that was the NAV then), you would have lost because the NAV was just 7.04 on March 7, 2005. But because you spaced out your investment, you won.
Conversely if the market had trended higher from the day you decided to start investing, you would lose out on an opportunity. This would happen as your subsequent purchases will get you less number of units for the same amount.
Systematic Investment Plan can help you to be disciplined (if you need discipline) but not solve your market timing issues. The Investment advisor or the Mutual Fund has a vested interest in pitching this idea to you as once you invest all your future investment would also accrue to them effortlessly.
[edit] How an SIP scores
It makes you disciplined in your savings. Every month you are forced to keep aside a fixed amount. This could either be debited directly from your account or you could give the mutual fund post-dated cheques.
As you see above, it helps you make money over the long term. Since you get more units when the NAV drops and fewer when it rises, the cost averages out over time. So you tide over all the ups and downs of the market without any drastic losses.
Also, a number of mutual funds do not charge an entry load if you opt for an SIP. This fee is a percentage of the amount you are investing. And if you do not exit (sell your units) within a year of buying the units, you do not have to pay an exit load (same as an entry load, except this is charged when you sell your units).
If, however, you do sell your units within a year, you would be charged an exit load. So it pays to stay invested for the long-run.
The best way to enter a mutual fund is via an SIP. But to get the benefit of an SIP, think of at least a three-year time frame when you won't touch your money.
Of course you would lose money if your units lost value over time.
What most SIP Mutual funds don't tell you is that they recover their fees as monthly charges by selling your units, so while you are buying more units when the market is down, more of your units are also being sold to fund the monthly charges of the Mutual fund. Also the Bid and Offer of the Mutual Fund is around 7% and this is the front load or expense you pay for buying the units each month. Also sometimes the Mutual fund will have annual fee charges.
In spite of the above drawbacks the retail investors' benefit in the long term horizon of 5–8 years is enormous. Only make sure that you can switch your funds from stock market to money market at short notice when the markets are really in a correction phase to safeguard the profits which you have made when the market was in a booming phase. This is easier said than done.
SIP will work best if markets trend lower after your investment. SIP performance would be average if markets trade in a range. SIP will perform worst if markets trend higher
[edit] References
http://www.investorwords.com/4856/systematic_investment_plan.html
