How should you invest in Mutual Funds: SIP or Lumpsum?

18 Feb 2020 Read 507 Views

Have you ever thought about what your life will be like after 10 years or 5 years from now? Along with a roller coaster of events, your future might also hold various monetary demands and requirements. It might be marriage expenses or your children's education or for your retirement. So how to face them? The answer is simple. Just start investing. There are various forms of investments.

But have you ever thought about investing in mutual funds? People prefer to invest in mutual funds mainly because of the reduced risk than compared to it's other investment counterparts. 

But how does investing in Mutual Fund work?

Say you have a marriage to attend in two months. You want to lose 2-3 kilos and you have no idea how to start. Most of us would seek the help of an expert and entrust our health to them. Similarly, mutual funds are the best place where you can entrust your money. It is effectively managed by an expert who has good knowledge about the market. All you have to do is define your financial goals and find the scheme that best aligns with your interests and goals.

These mutual fund investment institutions collect money from common people like you and me. The money thus acquired is then invested in various streams that would fetch you returns and dividends. At the end of the period for which you invested, the mutual fund management company will return the amount you've invested along with the gains earned. This is otherwise known as the maturity amount.  However, they will deduct roughly about 1-3 % from it to meet management expenses.

As far as mutual fund investment is concerned, it can be done either as a lump sum investment or SIP investment. Lumpsum investment is where you deposit, say, 1,20,000 over 1 year. But on the other hand, the systematic investment plan is where you invest 10,000 every month or at regular intervals.

Opening an account and investing in mutual funds has become a child’s play in this technological age. Just contact a broker, answer a couple of questions, and fill out a few forms.

 Now let's see in detail, which is best for you. 

SIP or Lumpsum investment?

If you are an investor who cannot make a lump sum but looking forward to a disciplined investment pattern, then SIP’s would be the answer.

But confusion starts when you are capable of adopting both the patterns but struggle with finding the most suitable one!

Let’s take the previous example where you invested Rs. 1,20,000 at the beginning of the year under lump sum investment and your friend makes a systematic one of 10,000 monthly. What do you think would be the result?

The corpus which you acquire will hold a higher return than that of your friend. This is because your investment was invested for a longer duration than that of your friend. At the end of 1 year, both would have invested the same amount, but you have given an entire one year for your Rs. 1,20,000.

However, the market is going to be volatile, so let me summarise the same example under two market scenarios.

Market fall

Now, you have bought 12,000 units at the cost of Rs.10 each. Your friend in the first month bought 1000 units at Rs. 10 each. By the second month, the NAV fell at Rs. 9. Which means your friend is likely to buy more units.

Similarly, if there is a constant downfall in the value from Rs. 9 to 8 and in the fourth month it bounced back to 10 then your friend will simply hold more units than those held by you. So obviously, your friend who made a SIP would benefit.

In the above case, your friend has reduced the average cost of his investment. This method is also known as Rupee Cost Averaging.

Have a look at the table to get a clear picture,

Your corpus will look like

Your investment

1,20,000

Units holding

12000 units

Returns @ 5% under lump sum investment

1,26,000

 

your friend's corpus will look like

Your friend's investment

10,000 monthly

Units holding

12361 units

Returns @ 5% under SIP

1,26,180.5

 

So your friend might simply make Rs.180.5 more than you. This might be a small difference, but in real life, the difference might be higher.

A SIP helps you remain tension free because you haven't invested all your money at one shot, especially when the market conditions turn to be unfavorable.

Use Finology’s SIP Calculator to calculate the amount of Wealth that you can generate with SIP.

Market rise

Stick to the previous example where you are holding 12000 units by making an investment of 1,20,000, which is a lumpsum investment. And your friend goes in for SIP-based investment. Now imagine that the price of the unit is slowly climbing the ladder from Rs. 10 to 11 and then 12 and so on. In such a case, your friend will be purchasing lesser and lesser units. You can happily take home a good return when compared to that of your friends.

No,w look at the below table to understand better.

Your investment

1,20,000

Units holding

12000 units

Returns @ 5% under lump sum investment

1,26,000

So your corpus will be Rs. 1,26,000

Whereas in your friend's situation let's say that the price climbed from 10 to 11 and 12 in the initial 3 months and was back at Rs 10. So the corpus will be as follows,

Your friend's investment

10,000 monthly

Units holding

11742 units

Returns @ 5% under SIP

1,23,291

So you will be gaining Rs.2,709 more than your friend.

Use Finology’s Lumpsum Calculator to calculate the future value of your wealth you can generate by making Lump Sum investments

Irrespective of the above scenarios, one needs not to worry about which pattern she or he is adopting while investing in mutual funds. For as long as the scheme and method are in line with the financial goal, you are all good. If you still insist on the best answer, then I would recommend read the market carefully and then land on your final decision. Either way, you are going to have some attractive returns

About the Author: Varishika Dinesh | 10 Posts

Varishika is on the verge of successfully completing B.Com. Nothing excites her more than reading books and watching movies. Business, finance, economy? You have her attention.

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