How is an SIP in Mutual Funds Different from an SIP in the Stock Market?
Apr 7
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Tags: Wealth Management, Investment Lesson, Mutual Funds, Stock market, Budget, Finance, Investing, Personal Finance, Investment
A Systematic Investment Plan or SIP is a method of investing that allows individuals to invest a fixed amount regularly over a period of time into a mutual fund scheme or set of stocks of their choice. Thus, SIPs empower investors to participate in the capital markets with small amounts, starting from as little as Rs. 500 a month. This amount varies with different schemes and asset management companies.
The Key Benefits of SIP
Discipline - SIPs enforce investing discipline as you commit to invest regularly.
Cost averaging - By investing a fixed amount regularly, you buy more units when the price is low and fewer when it is high. This evens out the cost per unit.
Flexibility - You can choose your investment amount and frequency based on your needs and financial situation. Most SIPs allow monthly or quarterly investments.
Convenience - SIPs can be easily started online. The investment amount gets auto debited from your bank account, adding to the convenience.
Lower entry barrier - With SIPs, you can start investing with as little as Rs. 500-1,000 per month, depending on the scheme.
Power of compounding - Investing early and regularly enables your money to grow exponentially thanks to compound interest as potential returns generate more returns.
Due to these benefits, SIPs have become the preferred investment mode for many mutual fund and stock market investors in India. The SIP mechanism, however, works differently when investing in mutual funds versus the stock market.
How SIPs in Mutual Funds Work
In mutual funds, a SIP allows you to invest in a specific mutual fund scheme periodically by investing a fixed amount. For instance, you could invest Rs. 2,000 every month in an equity fund or Rs. 5,000 per quarter in a debt fund.
Mutual funds pool money from multiple investors. The corpus is managed by a professional fund manager who invests it across various stocks, bonds, commodities etc. based on the fund's objective. When you invest through SIP in a mutual fund, you buy units of that fund. Here is how SIPs in mutual funds work.
Choose a mutual fund scheme you want to invest in based on your investment objective, risk appetite, time horizon etc.
Determine the SIP amount you wish to invest each month or quarter. Ensure you can set aside this amount regularly.
Set up the SIP through the mutual fund website or online platforms. You will need to provide your bank details to enable auto-debit of the SIP amount.
On the selected SIP dates, the fund will automatically debit the specified amount from your linked bank account and invest it into the scheme.
The fund house will credit mutual fund units of equivalent value (as per the day's Net Asset Value or NAV) into your account.
Keep investing regularly to see your SIP potentially grow through the power of compounding over time.
You can pause, stop or modify your SIP anytime as per your evolving needs and circumstances.
How SIPs in Stock Market Work
Apart from mutual funds, investors can also start SIPs to invest periodically in stocks of various companies. Here, instead of buying units of a mutual fund, the SIP amount is used to directly purchase shares of companies selected by you. Stock market SIPs work as follows.
Open a demat and trading account with a stockbroker if you don't already have one.
Choose the stocks you wish to invest in through the SIP, based on your analysis, risk appetite, objectives, and expert recommendations.
Decide the monthly/quarterly SIP amount and set up a mandate for this with your broker.
On the scheduled SIP dates, the broker will debit your linked bank account and use the funds to buy stocks for you.
The brokerage will credit the purchased shares to your demat account
Keep investing regularly through SIP to buy more shares and to potentially benefit from any price appreciation.
Review and adjust your stock picks periodically based on performance.
You can pause or modify the SIP schedule anytime through the broker platform.
SIPs promote disciplined investing and leverage the power of compounding. Mutual fund SIPs may be suitable for passive investors seeking diversification, professional management, and a low-cost way to invest systematically. Stock SIPs may be considered by active investors with a higher risk appetite and the time/ability to research individual companies.
Comparing Risk and Return Potential
While both mutual fund and stock market SIPs enable disciplined investing, there are some key differences between the two in terms of risk, return potential and approach. Let's compare them across various parameters.
Diversification
Certain mutual funds invest across a basket of securities like equity, debt, gold/silver etc. This diversification helps mitigate overall risk. Even equity funds may consist of stocks across sectors and market caps, thereby providing relative diversification compared to individual stocks.
In stock SIPs, you select specific stocks to invest in. Concentration risk is higher unless you invest in a wide basket of stocks across sectors. Most investors own just 3-5 stocks through stock SIPs, resulting in less diversification.
Risk Profile
Equity mutual funds carry market risk similar to stocks. But diversification may help mitigate the impact. Debt and hybrid funds have relatively lower market volatility.
Direct stock investments carry higher risk as you own just a few stocks; the entire capital is at risk if these stocks underperform. Also, while large cap and blue-chip stocks may be relatively stable, the stocks of smaller companies see higher volatility.
Professional management
SIP in mutual funds allows investors to access the knowledge and experience of seasoned fund managers, who make all portfolio related decisions on their behalf.
Individual stock SIPs may necessitate a more involved approach with investors doing their own research or relying on broker advice.
Conclusion
The choice between mutual funds versus stock SIPs would depend on an individual investor’s risk appetite, return expectation, investment horizon and capability to research stocks. SIPs, in general, enforce investing discipline and help investors benefit from rupee cost averaging and compounding. While mutual funds SIPs offer individuals access to affordable and professionally managed investing, individual stock SIPs require a more hands on approach. Following a judicious SIP plan tailored to one's requirements and goals can aid in building long-term wealth.
Disclaimer:
The information set out above is included for general information purposes only and is not exhaustive and does not constitute legal or tax advice. All complaints regarding Mutual Fund can be directed towards visit www.scores.gov.in (SEBI SCORES portal). Readers are requested to make informed investment decisions and consult Chaitanya Financial Consultants – 9000628943 / mfd.mmr@gmail.com to determine the financial implications with respect to investing in Mutual Funds.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
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