In a dynamic world such as ours, it is good to be systematic.

Well, in this article our discussion shall revolve around the theme systematic in the world of mutual funds.

By now, you must have heard of the terms – SIP, STP and SWP.

In this blog, we seek to discuss each of these in greater detail so that readers like you get a clear picture of the different modes of investing in a fund.

Let us start with the most basic and most popular one first.

Systematic Investment Plan (SIP)

We are sure you have seen the ad commercial – SIP Sahi hai.

But what is SIP? Well, SIP is Systematic Investment Plan. As the name suggests, it is a disciplined way of investing, whereby an investor chooses to invest a fixed sum of money over time with an objective to build a corpus.

The frequency of SIP differs. It can be quarterly, monthly, weekly etc.

What are the benefits of SIP?

With an investment horizon spread over time, an investor gets the benefit of averaging their cost of purchase

Through this process, the investor is preventing himself/herself from investing at the market peak.

SIP brings in disciplined investing within an individual

SIPs are typically beneficial for equity funds and find limited usage in debt funds.This is due to the fact that debt funds are typically less volatile when compared with equity funds.

 

Systematic Withdrawal Plan (SWP)

Under SWP, an investor gets an option to withdraw a fixed sum of money from a fund at regular intervals.

This is typically useful for senior citizens who have retired and seek to get a monthly sum for daily expenses.

In simple language, an SWP is just the opposite of SIP.

While in SIP you invest monthly to build a corpus, in SWP you invest a corpus first to withdraw a fixed amount monthly.

How does SWP work?

Typically to start with, an investor invests a lump sum amount in a fund.

From this corpus, the investor issues a standing instruction of transferring a fixed amount at regular intervals, to his/her bank account for meeting his/her expenses.

It is very similar to how a provident fund of a post office or pension plan from insurance companies work.

Majorly, it is used for risk mitigation and is a very useful tool for retirement planning.

Systematic Transfer Plan  (STP)

Systematic Transfer Plan is typically used when an investor has a sizeable corpus to start with.

Investing a lump sum amount generally exposes an investor with market timing risk.

Thus, to avoid this, investors use STP where the investment can be spread over a period of time to average the cost of purchase.

How does STP works?

Typically to start with, an investor invests a lump sum amount in a debt fund (generally a liquid fund or a short-term debt fund).

From this corpus, the investor puts a standing instruction of transfer a fixed amount at every interval in a new scheme (typically equity scheme because systematic investment makes more sense in equity funds only).

Thus, the idea is to get a little extra on the lump sum amount, while it is being deployed in an equity fund.

Imagine if STP was not present?

The investor would save this lump sum in a savings account that fetches anywhere between 3-5%.

But with STP, an investor can save the lump sum in a liquid fund (typically 6-8% returns) and he/she can authorize an instruction of regular transfer to an equity fund.

 

SIP in the bull market

Months Amount Invested Unit price No Of shares bought
Jan 10, 2017 10000 32 312.50
April 10, 2017 10000 36 277.77
July 10, 2017 10000 40 250.00
Oct 10, 2017 10000 42 238.09
Total 40000 37.09 (Average Stock) 1078.29

Let’s assume, the investor sells all his investment on October 11, 2018, at Rs 42. He would then realize Rs 45288.18 that translates to a total gain of Rs 5288.18.

SIP in the bear market

Months Amount Invested Unit price No Of shares bought
Jan 10, 2017 10000 32 312.50
April 10, 2017 10000 30 333.33
July 10, 2017 10000 25 400.00
Oct 10, 2017 10000 23 434.78
Total 40000 27.01(Average Stock) 1480.61

Now let’s assume, the investor sells all his investment on October 11, 2017, at 23.

He would lose Rs 5945.97 from his total investment. But if he waits for the price to reach 27.01, he would be able to save on his loss.

By investing through an SIP, you can reduce your cost of purchase, which will inturn help you save your losses, if you decide to sell your investment.

Power of compounding

Let us conclude the article with the classic example of Aditya Birla Sun Life Tax Relief 96 Fund.

The fund started in 1996 and is the oldest fund in the equity-linked savings scheme (ELSS) category.

The following chart shows how the fund generated humungous returns over 20 years and how the power of compounding helped an investor accumulate sizeable wealth over two decades.

Assuming an investor starts an SIP of Rs 5000 per month from January 1, 1998, until August 29, 2018, the fund would generate Rs 1.56 crore in total.

The cumulative investment was Rs 12.4 lakhs only. In simpler terms, the fund generated over 10x returns in 20 years time.

Should you wish to understand more about the systematic world in mutual funds, feel free to connect with us. In addition, you can check the top five funds for SIP and start your investment journey today!

Happy Investing!

Disclaimer: The views expressed in this post are that of the author and not those of Groww