What's your favourite drink during summertime? Is it the classic lime juice? Or the refreshing watermelon juice? Or do you like sugarcane? When you have your favourite summer drink, usually sipping brings out the flavour of the juice.
Similarly, a regular, gradual and consistent approach rather than a one-time lumpsum approach can sound better when it comes to your investments.
SIP stands for Systematic Investment Plan. When you invest using SIP, you ask the fund house to deduct a fixed amount at a fixed interval (like quarterly, monthly, weekly or daily) from your bank account, and it automatically invests in a selected mutual fund. Once you start a SIP, you can be hands-off and let the fund house and the market do the rest of the heavy lifting.
SIPs, like your summer drinks, come in different flavours. Let's look at each in detail to know which might be more suitable for your investment needs.
Types of SIPs you can choose from
1. Regular SIP
This is one of the popular SIP investment routes. In a regular SIP, you can fix your investment amount and investment interval and get ready to go on your financial goal journey.
Regular SIPs are triggered automatically at predetermined intervals, and they invest a fixed amount.
Since you can invest consistently and equally during market jumps and dives, you can benefit from rupee cost averaging. Also, it is an automatic route to mutual funds investing that might not require your regular intervention, making it hassle-free for you.
2. Flexible SIP
Your expenses can differ from month to month. So can your income. And so can the market too!
As you know, the market tends to have its up or bullish and down or bearish phases. A flexible SIP takes into consideration all these variations and can adapt to them. With flexible SIPs, you can adjust your SIP amount based on income, expenses and market conditions.
You can even set this SIP to automatically invest more during market plunges and less during market peaks. This can give you relatively more control over your mutual fund investments.
3. Step-up SIP
In step-up SIP, you can set up your investments to increase by a small amount at every interval.
For example, you can set up a SIP to invest ₹10,000 in the first month and, after that, increase the amount by ₹1000 every subsequent month. Or you can ask the fund house to increase it by ₹5000 after every 12 months.
This can be a relatively better match for salaried employees expecting increments and bonuses.
4. Perpetual SIP
In a regular SIP, you can indicate the tenure or the start and the end date of your SIP. But, you can leave it blank in a perpetual SIP or click on the perpetual SIP option. This way, your SIP continues until you indicate to the fund house to discontinue it.
5. Trigger SIP
Here, you can set up your systematic investments to be triggered if the NAV or Net Asset Value of the fund equals a certain value. Please note, the net asset value is the per-unit market value of all assets held by the mutual fund.
With trigger SIP, you may even trigger your SIP based on the values of popular benchmark indices like the NIFTY and the SENSEX.
Well, these were the types of SIP.
Did you know that the way returns are calculated for SIP investments can be more complex than for lump sum? This is because SIP is a series of investments instead of a single investment.
How are the returns calculated?
Let's see how the returns are calculated for both methods.
Returns Calculation
Lump-Sum Investment
The returns are calculated by CAGR for a lump sum investment, where CAGR stands for Compounded Annual Growth Rate. This is simply the return calculated with annual compounding.
Formula for Calculating CAGR
CAGR = (PV/IV) 1/t - 1
Where,
PV = Present Value (realised value of the investment)
IV = Initial value of the investment
t = Time for which the Initial Value (IV) was invested
SIP Investments
As you know, a SIP is a series of automated investments instead of one investment. Also, the amounts of the investments may vary, and so might their interval and frequency.
While calculating the returns of SIPs, the fund house can consider each individual's SIP investment separately. Then, it can calculate its return, compounded annually and take an average of all these returns. This method of calculating returns is called the Extended Internal Rate of Return or XIRR.
Formula for XIRR
In Spreadsheet Softwares like Microsoft Excel, XIRR is calculated using the =XIRR (values, dates) function.
Note
SIP contributions should be written as negative numbers, and redemptions should be written as positive numbers for calculating XIRR.
Thankfully, as an investor, you don't have to get into the hassles of calculating XIRR manually. Your statements and web portal will have it calculated and displayed for you. Spreadsheet software also has an in-built function called XIRR, wherein you enter all the amounts and dates of investments, and XIRR will be automatically calculated for you.
Now that you have a better understanding of the types of SIP, you can pick the one that is better suited to your financial goals.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
