SIP is not a panacea

Given the almost fanatical following that the SIP mode of investing in equity mutual funds that is currently prevalent, I am sure that this post is going to be a very controversial one. However, while I do believe that there are some positive points in SIP mode such as regular disciplined investment over time and accumulation over a long time horizon, the amount of misconception present over SIP is simply staggering. Let us see some of these below:-

SIP is not a product it is really a mode of investment. 

Most investors will tell you that they are investing in SIP which is simply not true. You can only invest in assets and not a mode of investment. Thus if you have an SIP in ICICI Value Discovery Fund then you are investing in the scheme, or more accurately in the stocks that the scheme invests in. It is important to understand that the primary determinant of how your investment will do is the MF scheme that you have selected and the stocks that it invests in. SIP is a mode of investment and is less significant in terms of the outcome, its’ main advantage being the regularity of purchasing the asset.

SIP is equivalent to equal amounts of investment done monthly in an automated manner.

Yes, it is true that most people do an SIP for a fixed amount of money every month on a given date and this is normally mandated through payment from a bank account. However, this is not a requirement and can easily be changed if you are comfortable doing it on your own. For example, you can invest on different days of the month in a manual mode and vary your amounts of investment. There is no need to feel that the SIP mode has to be a rigid one. The convenience is most often touted as a big virtue of the SIP mode, and though I agree it is useful for passive investors it also prevents you from doing an objective review of how things are going.

SIP lowers the investment risk as compared to one time investments.

As I said above, SIP is only a mode of investment and not a product. The risk is always associated with the underlying asset class which in this case is Equity. Therefore the risk of investments done through a particular SIP investment is simply the risk of equity at that point in time. If you were to do a one time investment on the same day in the same scheme, it would carry exactly the same risk. The mode of investing has nothing to do with the prevailing risk in the asset class or the particular asset at that point in time. What an SIP does is to spread the risk over a period of time as you are buying it not one time but over months and years. This may or may not mean better returns though, as we will see later.

SIP will lower the cost of your acquisition over a period of time.

The above thought is a direct fall out of the Rupee cost averaging principle where you buy shares at progressively lower prices to reduce your average cost. It is clear to see why this will not be the case with SIP investments. You are buying at a particular date of the month and have no control over the market conditions and levels of that day. So you will buy at different NAV in different months and this means your acquisition price may go up or down. In a declining market you will get more units as the NAV will progressively decrease, but the exact opposite effect will be there in a rising market. Thus to say that SIP mode lowers the cost of acquisition is not factual.

SIP will give you better returns over the long term as compared to one time investments.

This is simply not true in a rising market. Let me address this with an example. You have 1200 Rs to invest and decide to buy a MF with a NAV of 10 Rs, you will get 120 units. Now if you invested 100 Rs every month and the markets fell every month by 2 % with NAV declining at the same rate you would end up with 134 units. On the other hand in a rising market where the NAV went up by 2 % on every purchase date, you would end up with 107 units.. So whether your investment in SIP compares favorably or unfavorably with a one time investment of the same amount, is completely dependent on the market movements and nothing else.

SIP will protect you better in the event of a market crash.

Now all of us are really worried about a market crash like 2008 and what it would do to our investments. The marketeers of SIP play on this emotion to suggest that by investing through the SIP mode you are somewhat better protected. Is this true? Not at all – your value of investment is just a function of your units multiplied by the current NAV, how you acquired it is immaterial. If you have 1000 units of a MF scheme today and the NAV declines by 5 % due to a market crash, you lose 5 % of your investment. It does not matter whether you acquired those 1000 units through a one time investment or through SIP. The management of risk will be a function of the fund and scheme quality not of investment mode.

SIP can be set up once and you can then be at peace.

I completely disagree with this as you need to review the performance of your investments over a period of time and this needs to be done at least once a year. SIP mode, due to the convenience that it gives to the investor actually discourages review which is a bad idea. It lulls the investor into a false sense of security when you need to be vigilant. We worry a lot about the price of a stock we buy and see its’ performance daily but when it comes to SIP investments we simply lose track of it and justify it by saying that things will work out in the long run.

So with all of this should you be investing in SIP in the currently understood form? If you are a passive investor, new to equity and unwilling to spend much time on your finances, it can still be a positive idea. However, for all other investors I think you can do much better than investing in SIP in a mechanical manner.

I will share some personal examples of my SIP investments in the next post for the benefit of readers.

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22 thoughts on “SIP is not a panacea

    • You can still continue to do SIP as long as you are aware that there are certain changes you need to do in the way it is being implemented. Keep reading the future posts for a better understanding.

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  1. SIPs instill savings discipline. Bank/Post Office Recurring Deposit Accounts may be ideal. In my humble view equity/MF investments made via SIP route during the last 12 months or so would fetch lower returns. Retail participation in stock markets improves in the final stages of a bull run as is evidenced by the increase in AUM of MFs of late.

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    • You are correct Mani the NAV of MF schemes will rise the most in the final phase of a bull run. For 2014 the NAV has kept increasing and this has caused lower units to be purchased through SIP over each progressing month. Not a very good way to ensure returns.

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  2. Compelling article and completely agree with every point. I make it a point to aggressively average out manually as well by buying small chunks whenever the market goes down and I have some spare change. This is in addition to the fixed monthly SIP amount. Helps me a lot and has worked handsomely for me. People should definitely not forget about it as something automated but make the most of it with some extra manual efforts as well..
    Brilliant read, keep them coming Sir.

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  3. “SIP lowers the investment risk as compared to one time investments”

    Let me explain what is meant by this sentence by an example. Suppose, I want to invest 1L (big amount for lot of people) in equity mutual funds, the sentence says that invest it via SIP (monthly/weekly) instead of single investment of 1L on ONE particular day as the risk is high if such big amount is invested on a particular day.

    This is what the sentence means. Hope I am clear

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    • Hemanth what you are saying here is completely dependent on market levels which cannot be controlled by anyone. In a rising market it will be better to make a one time investment and in a falling market SIP will be better. In the latter case too, if you wait till the end of the period and make a one time investment you will benefit from it. There is an example given in the post which explains this.

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      • How can one know whether it is a raising market or falling market ? Unless it ends, we cannot tell whether it a bull run or bear run

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      • You do not need to see the end, the trend should be fairly simple to spot. Many people think that the markets are something mysterious that can never be predicted but it is really not so. Levels are difficult to predict but medium term trends are quite possible to call.

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      • Continue your SIP unless the market runs up a lot, when you may want to decrease the amount. NEVER stop it in any case. For this FY I do not think the markets will go up much so stick to your current SIP.

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  4. PL READ ARTICLE OF LARRY CAO ,CFA,(YOU CAN SEE HIS PROFILE ON TWITTER).He is celebrated analyst and fund manager of Hongkong based FUND house having clients across USA and UK.He opines that it is very much behavioral issue when to pull the trigger on any idea whether it is buying or selling.So if it is very tough decision even for experienced fund manager when to buy or sell so where do you think customer will get feel who is not having bare minimum knowledge.As per Larry automatic route is also valid route which is SIP in a way ,as your money gets invested on fixed date and in fixed amount irrespective of your behavioral hunches which are often risky.secondly see the stats irrespective of fund houses or schemes people have made decent returns in five ten or fifteen years time,longer the better.so no harm for retail investor in opting for that.it is much better than what people do in stock trading in my view.

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    • Hi Rajeev, I am not talking about people who are new investors, they can go for SIP. I am only pointing out that there are several claims made on behalf of SIP which are simply not factually true. Do not underestimate the stock traders, people make far more money in it than in SIP.

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  5. Hi Sir,

    I have a query regarding SIP. let us say we enrolled for a SIP and on a particular date of month its happening. Now there is a day in the month where the market went really down and i want to buy on this day rather than the scheduled monthly day. In this case, will the transaction happen both on days i purchased manually and scheduled dates? or Just the day i bought Manually?

    Please suggest.

    Thanks
    Pavan

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  6. Dear Rajshekhar Roy, I am completely agree with your view. But doing SIP with manual SIP also. SIP is a great tool for new investor or who unable to remain disciplined. I mostly doing manual SIP whenever big correction comes in the market…. My thinking is “Dar ke aage jeet hai” and it’s working since I started my investment.

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