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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