How SIP helps in market correction?

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Equity is the best investment options for them who want a huge return on their investment. But due to its volatility and uncertainty, investment in equity become highly risky. If a person wants to invest in equities then he has to do a lot of study and research which is not possible for the general public.

For those investors who don’t have so much time and expertise in the stock-market, SIP is the best option.

SIP or simply say Systematic Investment Plan help investors to invest in equities through a mutual fund. It reduces the burden of the general public as they don’t have to worry about research and study of various companies.

Before going forward, let us understand what is SIP?

SIP simply known as Systematic Investment Plan, is a facility offered by mutual funds to the investors to invest a fixed amount in a disciplined manner. It allows investors to invest a fixed amount on a regular interval- say once a week or fortnight or month or once a quarter, instead of investing in lump sum.

When you invest through SIP, you are investing a fixed sum regularly-say every month. Since you are investing a fixed sum, you get more units when the market goes down and fewer units when the market rises. This is called cost-averaging and it is one of the most important benefits of SIP.

Related: How to Find the Best Mutual Fund?

Stock-market is highly volatile and everyone can’t remain updated every time unless you are doing trading in stocks and debentures.

So, SIP becomes the most suitable options for all those investors who want to gain from the market without worrying about their investment.

All of us know that stock-market is highly volatile and unpredictable too. Good news boosts the market and bad news bring it down. When market rise, the return from investment rise. When the market fall, investors lose their money.

Related: Why people lose money in the stock market?

In this rising and falling market, SIP works better. Investor who has patience and long-term investment horizon earn an amazing return on his investment.

It is noticed that at the time of the rising market, many investors get interested in investing in equities especially through SIP route. During that phase, their investment shows a positive return which motivates them to invest more.

But when the market corrects, the value of their investment falls. Their portfolio starts showing a negative return. Negative return demotivates them and they terminate their SIP or withdraw money.

The main purpose of SIP is to benefit from market volatility. When market rise, the value of NAV also increases and investors get less unit on their investment. But when the market falls, the NAV also falls and investors get more units on their investment. This is called Cost Averaging.

If you only invest in rising market and skip during falling market then you will lose the benefit of SIP. During a bear market, investors get more units at a lower price, as a result, their return will increase when the market will rise.

Related: Why people are not investing in share market?

To understand in a better way let us take the example of an investor Mr Rahul who started a SIP of Rs 1000 in Jan 2007 in SBI Magnum Equity Fund.

We split his investment period into three phases.

The Rising Market: Jan 2007- Jan 2008

During this period, the market was rising. The rising stock-market was attracting a lot of investors to put more money. Many people started their investment in this rising market for the first time.

Let’s look at the investment of Rahul

DateAmount Invested NAVNo. of Units Cumulative Units
02.01.2007                     1,000.00         27.87              35.88                          35.88
01.02.2007                     1,000.00         28.82              34.70                          70.58
01.03.2007                     1,000.00         26.56              37.65                       108.23
02.04.2007                     1,000.00         25.60              39.06                       147.29
03.05.2007                     1,000.00         28.86              34.65                       181.94
01.06.2007                     1,000.00         29.74              33.62                       215.57
02.07.2007                     1,000.00         30.67              32.61                       248.17
01.08.2007                     1,000.00         31.53              31.72                       279.89
03.09.2007                     1,000.00         32.42              30.85                       310.73
01.10.2007                     1,000.00         36.52              27.38                       338.12
01.11.2007                     1,000.00         42.16              23.72                       361.83
03.12.2007                     1,000.00         44.73              22.36                       384.19
01.01.2008                     1,000.00         47.22              21.18                       405.37

Total Investment during the Period: Rs 13,000/-

Total No. of units received during the period: 405.37

The total value of the investment as on 1st Jan 2008:  Rs 19,141.49

Gain: Rs 6,141.49

The table has a lot of numbers but you should focus on the number of units. As the market is rising, the NAV is also rising. As a result, Rahul is getting a lesser number of units with rising market. In Jan 2007, he got 35.88 units but in Jan 2008, he got only 21.18 units at his same value of investment.

This is because the market was rising and with a rising market, NAV was also increasing. With rising NAV, the cost of purchasing units was also increasing. However, with the rising market, the value of investment also increased. As a result, he earned Rs 6,141.49 on the investment of Rs 13,000/-

The Fall in Market: Feb 2008- March 2009

Rahul continued his investment in the hope that the market will continue to rise. But suddenly, market crash. The stock-price of many companies fall. The mutual fund started showing negative results.

However, Rahul didn’t skip his SIP and continued his investment in the hope that the market will rise one day.

Look at his investment during the recession phase:

Date Amount Invested NAV No. of Units Cumulative Units
01.02.2008
    1,000.00         38.69         25.85           25.85
03.03.2008     1,000.00         35.16         28.44           54.29
02.04.2008     1,000.00         32.93         30.37           84.66
02.05.2008     1,000.00         36.53         27.37        112.03
02.06.2008     1,000.00         33.48         29.87        141.90
01.07.2008     1,000.00         26.74         37.40        179.30
01.08.2008     1,000.00         30.88         32.38        211.68
01.09.2008     1,000.00         30.30         33.00        244.68
01.10.2008     1,000.00         26.81         37.30        281.98
03.11.2008     1,000.00         21.06         47.48        329.47
01.12.2008     1,000.00         18.71         53.45        382.91
01.01.2009     1,000.00         21.08         47.44        430.35
02.02.2009     1,000.00         19.26         51.92        482.27
02.03.2009     1,000.00         18.40         54.35        536.62

Total Investment during the Period: Rs 14,000/-

Total No. of units received during the period: 536.62

The total value of the investment as on 2nd March 2009:  Rs 9873.81

Loss: Rs 4126.19

In this table look at the number of units, Rahul is getting. The market was failing which result in fall in NAV of the fund. With failing NAV, Rahul starts getting more units from the same value of the investment.

In Feb 2008 Rahul got 25.85 units which increased to 54.35 units in March 2009. However, during this period, Rahul invested Rs 14,000 but his investment value become only RS 9873.81/- and his portfolio was showing loss of Rs 4126.19/-

The Recovery of Market: April 2009 onwards

In March, the government took a lot of decision in favour of the market. As a result, the market starts recovering and start moving upward.

During the recovery period, Rahul continued his investment and look at his investment.

Date Amount Invested NAV No. of Units Cumulative Units
02.04.2009
    1,000.00         21.43         46.66           46.66
04.05.2009     1,000.00         25.12         39.81           86.47
01.06.2009     1,000.00         31.97         31.28        117.75
02.07.2009     1,000.00         31.82         31.43        149.18
03.08.2009     1,000.00         34.68         28.84        178.01
01.09.2009     1,000.00         34.14         29.29        207.30
01.10.2009     1,000.00         36.81         27.17        234.47
03.11.2009     1,000.00         34.33         29.13        263.60
01.12.2009     1,000.00         38.08         26.26        289.86

Total Investment during the Period: Rs 9,000/-

Total No. of units received during the period: 289.86

The total value of the investment as on 1st Dec 2009:  Rs 11,037.90

Gain: Rs 2037.90

Now, again look at this table, you had noticed that when the market starts recovering, the NAV of the fund increased. With rising NAV, the number of units which Rahul failed down.

By looking at the above example we have noticed that in rising market, Rahul was getting lesser units in his every next investment. However, when the market starts falling, he starts getting more units.

During the recovery phase, he again starts getting lesser units on his investment. But if we look over his investment journey then we found that:

Total investment during the period:  Rs 36,000/- 

Total No. of units received during the period: 1231.85

The total value of the investment as on 1st Dec 2009:  Rs 46,908.82

Gain: Rs 10,908.82

Rahul was able to gain so much return only because he accumulated a lot of units during the recession phase. If he had skipped his SIP during failing market then he would lose the opportunity of getting more units at the same investment amount.

SIP is designed in such a way that it gets fewer units during the rising market and more units in the failing market which result in averaging the cost of units. If you skip your SIP in failing market, then you will lose the opportunity of getting more units.

Conclusion:

The main purpose of starting SIP is that investors don’t have to worry about market fluctuations. But unfortunately, when there are some corrections in the market, investors start withdrawing their money. After some time when the market starts rising then these investors again start investing in SIP. By this way, they lose the golden opportunity to collect more units at a cheaper price.

If you want to get the benefit of SIP then you have to continue your investment without worrying about market fluctuations. Stock-market is highly volatile in the short term but rewards those investors who remain invested for a longer duration. 

2 comments

  1. SIP sounds a lot like dollar cost averaging. The best thing you can do when it comes to investing is to “set it and forget it” through automation. Set up a regular amount to be deducted from checking to get invested every single month.

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