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Make no mistake, it’s the right SIP

Systematic Investment Plan offers you the rupee-cost averaging benefit.

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MUMBAI: As the local train started, Sandipan Raina stood near the door, waiting for the train to pick up speed. Till he came to Mumbai, he used to wonder why people stand so near the door, at times almost hanging out. The simple answer is, its hot and sweaty inside. But it’s a little more than that, he had figured out.

In this city of nearly 20 million, there is very little personal space. There are people running into you all the time. By travelling the way they do, people are just trying to spend sometime with themselves, whistling their favourite tune, singing their favourite song or simply staring into the dark.

Today, Raina was trying to think whether he should continue investing in equity-linked savings scheme (ELSS) he had been investing in through the systematic ivnestment plan (SIP) route. He has been investing Rs 5,000 on the 10th of every month, since December 2005.

The last two times he had received his account statement from the mutual fund (MF), he had seen that the value of his investments was below his total investments. 

As he contemplated, it started raining, and to avoid getting wet, Raina moved inside. Once inside, he ran into his long time friend, Shalini Saxena, and they stared talking. He explained to her his conundrum and told her that he wanted to stop investing now.

“But that would be foolish, yaar. Tell me something, why did you opt for the SIP route to invest in ELSS,” asked Shalini.
“Hmmm, let me think. Well, I wanted to set aside some amount of money every month, which I would otherwise have ended up spending,” replied Raina.

“And?” she retorted. “And, the good advertising. With a good number of MFs adverstising about SIPs, I thought there must be something to it,” replied Raina.

“Well, then you haven’t really understood the real reason for investing through the SIP route,” she said.
“What would that be?” asked Raina.

“Rupee-cost averaging is the answer. Since you have made it clear by now that you are a dumbo, let me explain further. Let’s say you have been investing Rs 5,000 every month in the growth option of HDFC Tax Saver Fund, which experts regard as the best ELSS in the market. Now, when you started investing from December to May, the markets kept going up and so did the value of your portfolio. But what happened everytime the market went up?” asked Shalini.
“The NAV of the scheme also kept going up and so I got a lesser number of units for the Rs 5,000 I invested every month,” replied Raina.

“That was one part of it. As prices went up, being on the SIP ensured that you bought lesser number of units and hence limited your exposure to the equity market.  But after  hitting an all-time high on May 10, 2006, the marktets have been falling. Consequently, the NAV of the scheme was also hit. On June 12, 2006, when you purchased that month’s units, the NAV of the scheme had fallen to Rs 104.817 from Rs 147.511 on May 10, 2006. And the value of the Rs 35,000 you invested over seven months, fell to Rs 30,267.17. Now what happened in the month of June when the NAV of the scheme fell to Rs 104.817?” questioned Shalini.

“In June, since the NAV had fallen, I got more units than I had got in any of the previous months (see table). With an exit load of 1%, the price of a single unit came to Rs 105.865. This ensured that I bought more units. Also the same thing happened in July. The purchase price of a single unit had risen to Rs 116.652, but was well below the all-time high. And so I got 42.863 units. Also the value of Rs 40,000 invested over 8 months was at Rs 38,301.69,” replied Raina.

“When the markets are falling, it’s a good time to buy. But when prices are falling, it’s psychologically difficult to buy. On the other hand, when the markets peak, a lot of investors enter the market. An SIP ensures that you buy more when the markets are falling and less when it’s peaking. But if you back out now, you won’t be buying when the markets are falling and this will not allow you to average your price. As of now, the average price of a single unit is Rs 120.618.

Let’s say that you had stopped investing in the month of May, then the average price of a single unit would have been Rs 124.207. Hence for your investment to be positive again, the NAV of the fund would have to go beyond Rs 124.207. But now that you have invested in June and July as well, when the markets have been falling, the average price of your unit is Rs 120.618. For your investment to be positive again, the NAV of the scheme would have to go beyond Rs 120.618. So it’s very important to keep investing through the SIP route, even when the market falls,” came a long-wielding response from Saxena.

The entire conversation reminded Raina of the old Harry Belafonte song, “And not me the people they say, that de man are leading de women astray, But I say, that the woman of today, Smarter than the man in every way”.

 (The example is hypothetical)

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