While it is common knowledge that long-term investment in mutual funds through SIPs helps navigate the market ups and downs, there are other facets of SIPs that are still not fully realised or appreciated. As the SIP culture is embraced by investors, it is crucial that they know what to expect when they take this journey. The path to success with SIPs is not linear. If you set your expectations right, it will help maintain your investing resolve and allow SIPs the time they need to yield the desired outcome. Here, we outline certain critical attributes of a typical SIP throughout its life to help you better understand and navigate the path you are on.
The longer the SIP term, the better the outcome
Historical data suggests SIP delivers positive outcomes over 8 years or longer time frames.
1.Slow start can be a good start
The early years of a SIP can be a real test for your investing discipline. How the market behaves in this phase is not so critical for the investing outcome, but how you behave in response to the market’s vagaries will make all the difference. Given the volatility in equities, there will be times when the market will trend lower or sideways. If this persists for the first 2-3 years and you don’t see any return from the SIP, what are you likely to do? Won’t you be tempted to throw in the towel?
It may not be the right decision. If you persist with the SIP, this phase is likely to set you up for a healthy outcome later. According to a historical study by WhiteOak Capital AMC, a SIP that has fetched low returns in the first five years has delivered more favourable returns over ten years. For the period between August 1996 and June 2023, whenever the average SIP return in the S&P BSE Sensex in its initial five years was 8% or lesser, the return at the end of 10 years averaged a healthy 18.7%. Comparatively, whenever the average SIP return exceeded 8% in its first five years, the final SIP return after ten years averaged 14.9%.
So, the next time your SIP falters in its early years, give it the benefit of a longer horizon. This might be just the base it needs to create serious wealth. Vidya Bala, Co-founder, Primeinvestor. in, observes, “Most investors quit SIPs if the returns in the initial years are not encouraging, but this is the time when it is averaging on lows so that when the market turns later, the returns seem magnified.” Prateek Pant, Chief Business Officer, WhiteOak Capital AMC, remarks, “The markets are never linear. If investors can treat the volatility as their friend and remain invested, they will bring you the desired outcomes later.”
SIPs that struggle at the start can deliver healthy outcomes
According to historical data, the SIP that delivers lower returns in its initial years generates superior returns later.
2.Beyond a certain size, SIPs are not agile
A SIP is usually a good tool to mitigate market volatility. It helps average out your investment costs through the ups and downs of market cycles. In a falling market, every additional instalment lowers your average cost and fetches more units with the same amount. This can dramatically influence your final outcomes. However, a SIP remains agile only up to a point. When the SIP-led portfolio grows beyond a certain size, incremental SIP contributions do not materially influence the outcomes. This is because as the portfolio, built via SIPs, starts getting bulky, it resembles a lump-sum investment.
At this stage, the SIP is not nearly as nimble as it is in its early years. For instance, an investor persisting with a monthly SIP of Rs.10,000 in a Rs 25 lakh portfolio will hardly get any rupee-averaging benefit from the interim market volatility. Bala asserts, “Averaging requires deep pockets. It does not work unless the incremental money that you put in is sizeable enough to compress the purchase cost for the entire invested capital.” Besides, the markets can rebound very quickly.
The SIP contributions during this period will hardly make a dent. It’s when the market remains depressed for longer periods then that SIP helps. However, often the market recovers sharply, not allowing enough time for the SIP to do its trick. Investors should not be content simply continuing with the SIP contributions in later years. To really make a difference in the final outcome, they must either step up the SIP contributions or make occasional lump-sum investments, along with steady SIPs, or both.
Pant says, “Beyond a point, your initial SIP outlay will not make material headway. At this time, it is critical that the investor steps up contributions.”
Nehal Mota, Co-Founder and CEO, Finnovate, a hybrid financial fitness platform, insists that the real averaging happens when you put in lump-sum amounts during the down phases.
VIDYA BALA
CO-FOUNDER, PRIMEINVESTOR.IN
“Averaging does not work unless the incremental money is sizeable enough to compress the purchase cost for the entire invested capital.”
3.SIPs recover faster from bear markets
Worried about an imminent market crash? We have already established that a SIP does most of the heavy lifting during a weak or falling market. The rupee cost-averaging mechanism is in play during this phase, fetching more units at lower prices. This sets you up for superior outcomes when the market tide turns. This principle also helps the SIP investor recover from a bear market much faster. Bala says, “If you persist with the SIP in a prolonged bear or sideways market, the subsequent market recovery will push up your SIP value much faster.”
Not convinced? Here’s the evidence: a SIP that started in January 2018 recovered from the 2020 market crash in six months, even as the Nifty index took 12 months to return to its pre-crash level. Another SIP started in January 2005 and recovered from the crippling 2008 market crash in just 18 months, compared to the Nifty’s comeback period of 34 months. SIP investors clearly need to embrace short-term volatility rather than get bogged down. If they can summon the resolve to double down on SIP investments at such times, the outcomes will be even better, and the timeline for recovery will be faster. Putting a lump sum at or near the market bottom will yield the most desirable result, but it cannot be timed easily. One could either end up deploying too early, when there is a further downside left or miss out on the bottom when the market has already begun its run-up. The best bet is to stagger the outlay during this phase.
SIPs beat indices while pulling back from a fall
Any investor persisting with SIPs during a falling market will regain the lost value before the market itself.
4.Real compounding happens in last phase
You may be familiar with the magic of compounding with SIPs. As the invested amount grows with time and returns are reinvested, it leads to higher returns in the future. However, patience is the key to seeing this compounding at work. In the initial years, you may feel that the SIP is not pulling its weight. So when can you expect to see the transformative wealth creation potential of your SIP? It’s best to run a SIP like a marathon, finds a study by Edelweiss Mutual Fund. The study tracked a Rs 10,000 monthly SIP in the Nifty 50 index running for 21 years, starting from 31 January 2002 till 31 December 2022. After the first seven years, Rs.8.4 lakh would have grown to Rs.13.64 lakh, a gain of Rs.5.24 lakh. Persisting with the SIP for 14 years would grow from Rs 16.8 lakh to Rs.52 lakh.
This is certainly impressive. What happens if the investor lets the SIP run for another seven years? After 21 years, Rs.25.2 lakh would have fetched a meaty sum of Rs.1.44 crore, with 70% of the gain made in the last seven years. This is not to suggest that every SIP should run for over 20 years. Whatever the SIP timeline, the real gains will accrue in its later years. Niranjan Avasthi, Head, Products, Marketing and Digital, Edelweiss Mutual Fund, says, “While starting a SIP, it is better to let it run its course without interruptions to see the actual compounding.” The longer your investment horizon, the greater the potential for compounding to work its magic and translate into serious wealth creation. “The exponential compounding happens after 15 years,” points out Mota. If the SIP fetches a 15% return every year, your money can potentially grow 2x in five years, 4x in 10 years, 8x in 15 years, and so on.
Big gains accrue in later years
In the initial years, you may not see material gains from SIPs, but compounding occurs when you stay invested for a longer period.
NIRANJAN AVASTHI
HEAD, PRODUCTS, MARKETING & DIGITAL, EDELWEISS MUTUAL FUND
“When you start a SIP, it is better to let it run its course without any interruptions in order to see the actual compounding.”
5.Every SIP instalment counts
If your SIP is the most effective when the market is weak, does it mean it is dragging its feet in a rising market? Wouldn’t it be better to pull the plug on the SIP if all it is doing is fetching units at incrementally higher prices? It is not so straightforward. Terminating a SIP during a soaring market may fetch a better yield on it, but this may reduce your final corpus sizeably. Let us compare two individuals, A and B, who run a Rs.10,000 monthly SIP between January 2005 and December 2010. A skips his monthly SIP whenever the market gains more than 5% over the previous month, but B continues his SIP throughout the tenure. While B will end up with Rs.11.72 lakh at 16.12% annualised return, A will get a higher return of 16.41% on his SIP but will finish with a much smaller corpus of Rs.7.95 lakh.
It is a fallacy that SIPs at higher market levels don’t add any value. Over the entire journey, a long-term SIP will fetch you some units at very cheap prices, some at very expensive prices, and many at moderate prices. Even as the bulk of workload by the SIP will be at market lows, the units bought at or near intermittent peaks will also count towards the final corpus. The stop-and-restart approach may help you stay a step ahead of the market for a short period, but this is purely a cosmetic gain. In reality, you end up putting less money at work. Avasthi asserts, “If you remove those additional units from your final haul, it can make a lot of difference to the final SIP value.”
Do not skip your SIP if you want a bigger corpus
Stopping an SIP when the market is heated may fetch higher returns, but it will be at the cost of a smaller corpus.
PRATEEK PANT
CHIEF BUSINESS OFFICER, WHITEOAK CAPITAL AMC
“The time that you remain invested in the market through your SIPs is more important than you trying to time the market.”
6.Entire SIP outcome hinges on climax
Even if you manage to curb your impulses and invest through SIPs in a disciplined manner, there is no guarantee that it will help you deliver a healthy outcome. The ending phase of a SIP is crucial to the entire return experience regardless of the rupee-averaging mechanism. It doesn’t matter how long the SIP has run—whether you started at the market bottom, at the market peak, or somewhere in between. Exposing it to the market’s vagaries in the run-in towards your goal maturity may hurt you badly. For perspective, let us look at the most recent market crash of 2020. If a Rs.10,000 monthly SIP had been started at the market peak in January 2008, an investment of Rs.14.5 lakh would have amassed a corpus of Rs.28.1 lakh by January 2020, a healthy return of 10.5%.
Suppose this investor had been targeting a down payment of Rs.30 lakh for a new house in the coming months. By 23 March 2020, the same SIP would have shrunk in value to Rs.17.6 lakh, a paltry return of 3%. A 12-year SIP was cut down to size within a matter of a few weeks; the investor left staring at a sizeable shortfall. The outcome would have been similar if the SIP had been started at the previous market bottom. This shows how vulnerable even a long-running SIP can be to the market’s gyrations. An unexpected turn of events in the last leg of your SIP journey could upset your calculations. To counter this threat to your corpus, investors should chalk out a graded exit strategy. Mota of Finnovate maintains, “Never wait for the goal due date to withdraw from the SIP. Initiate a systematic withdrawal plan (SWP) three years before goal maturity.” This will mitigate the erosive impact of any market downturn during this phase.
Ending phase matters more than the time of entry
Starting an SIP at market top or bottom does not alter the outcome as much as the exit timing.
NEHAL MOTA
CO-FOUNDER & CEO,FINNOVATE
“Never wait for goal due date to withdraw from SIP. Start SWPs three years before the goal maturity.”
