The Power Of SIP In Investing – How an SIP works?

The Power Of SIP In Investing – How an SIP works?

Power Of SIP In Investing: A Systematic Investment Plan (SIP), popularly known as SIP, refers to a facility provided by mutual funds to investors. In this, investment can be made in a disciplined manner.

This facility enables an investor to invest a fixed amount of money at intervals that are pre-defined in the selected mutual fund scheme. These SIP intervals depend on the investor and can be on a weekly/monthly/quarterly/semi-annually or annual basis.

By adopting this route to investments, an investor gets an opportunity to invest in a timely manner. He/she can invest without worrying about market dynamics and can benefit over the long term due to average costing and the power of compounding.

SIP has been gaining popularity among Indian MF investors and it’s very convenient. Investors are required to only give their bank standing instructions to debit the amount every month (depending upon the period an investor selects).

Power Of SIP In Investing – Compounding

The first power of SIP in investing is compounding. When an investor invests regularly and in a disciplined way through SIP for the long term, the benefits get magnified due to the compounding effect. The compounding effect in SIP ensures that investors earn returns not only on the principal amount (which is the actual investment) but also on gains made on the principal.

Let us understand this with the help of an example. Consider that you invest money into a mutual fund scheme and you earn some income. Now, if you reinvest this income, you will be entitled to earn an income on the original investment, and the income that you have earned.

If you keep reinvesting, you tend to earn returns on the investment and all its returns. This sort of effect of reinvesting is termed compounding. Believe it or not, compounding has the power to increase your wealth considerably.

Understanding the working of SIPs? How does it help you in Rupee Cost Averaging?

Every time an investor invests in the mutual fund scheme through SIP, the investor purchases a certain number of fund units corresponding to the amount invested. Investors don’t have to time the markets when they choose the SIP route to investment as they benefit from both bullish and bearish market trends.

When there is a downfall, investors are able to purchase more fund units with the same amount which has been decided. On the other hand, an investor buys fewer units when the markets go up. Because the NAV of mutual funds is updated on a daily basis, the cost of purchase varies from one SIP installment to another. In the long run, the cost of purchase averages out and turns out in favour of the investor. This is termed rupee cost averaging.

Since it is impossible to time the market, SIPs can help in averaging the cost of investment. For example, a mutual fund has a NAV of INR32 on 1 January 2022. If equity markets fall, it will result in a fall in NAV too. So, by end of January 2022, markets fell and the value of NAV followed. It is now INR28. Therefore, the first purchase was made at INR32 and the second purchase has been made at INR28. It will bring down the cost of investment. 

Through SIP, investors are able to start with a small amount of investment and can get significant returns in the long run. It is a simple and convenient way of making investments in mutual funds. There are some other benefits of investing through SIPs. These include convenience, significantly higher returns than RD, ease of investing, can be considered as an emergency fund, etc.

Delay in SIP can be costly- This is why!

Starting the process of investment late can be costly for one major reason. Late investors are not able to fully capitalize on compounding benefits. Compounding means reinvesting the return one earns on the invested amount. This enables an investor to earn more income. Time is money is particularly true in this case. Compounding accelerates the growth of investments over a longer period of time. 

Simply put, a compounding strategy makes your money work for you. It is regarded as a powerful tool to increase your wealth. One can use the power of compounding to plan future goals, like retirement. 

One of the biggest benefits that investors can applaud about the power of compounding is the value of time. With time, investors can gain returns, and yields on these returns can further generate returns.

Therefore, this helps in increasing investments quickly. That is why it is being said that “Earlier you start and the longer you stay invested, the more returns you get on your investments.” Early investors are able to unleash the power of compounding to the fullest. 

Another reason for starting early is that you get more time to average out on your investments. Early investors will be in a much better position to benefit from market downfall in comparison to late investors. This is because whenever the market corrects, early investors can increase their investment value and bring down their costs. This will eventually result in better returns.

Also Read: Is it Good To Invest in SIPs When the Stock Market is Down?

In Closing

The power of SIP in investing is visible thanks to compounding over the long run. When the investment amount gets invested in a disciplined way, the compounding effect takes charge. SIP investment offers an investor the opportunity to participate in capital markets without even actively timing the equity market.

There are different types of SIP Investment. These include flexible SIP investments, step-up SIP investments, and trigger SIP investments. Investors can decide according to their requirements. That’s all for the article on the Power Of SIP In Investing, We hope you enjoyed reading it.

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