How SIP in mutual fund helps creates wealth

Nearly Rs 19,000 crore worth of money now comes into systematic investment plans (SIPs) every month.

There is nothing wrong with fixed-income investments—they give assured returns and your principal is protected. The big problem with them is that many don’t beat inflation over the long run. Here, investment in SIP comes in as a robust strategy. Regardless of the size of the investment amount, an SIP helps generate wealth by allowing an investor’s money to be placed in a mutual fund over time at predetermined intervals (such as months or quarters).

Consider investing in an asset, receiving a return on it, and reinvesting the proceeds to generate income on both the original investment and the income earned. Maintaining this cycle of reinvestment enables one to profit from both the initial investment and all of its returns. This cycle of reinvestment is known as compounding. It is frequently compared to the snowball effect. Small actions, taken over time, can yield significant results.

With SIP investment plans, the power of compounding enables investors to receive money from both their initial investment and any interest they earn down the road. To better understand this, consider the following example. Let us assume you deposit Rs 12,000 in a conventional investment vehicle instead of an SIP plan, and you get 10 percent interest for three years. You will receive Rs 3,600 in interest by the end of the three-year period. However, if you put Rs 1,000 into a monthly SIP investment plan that has compound interest and offers 10 percent interest, you can end up with higher profits after three years.

Also read | Equity or debt funds, SIP is an all-weather friend

The ideal compounding strategies for SIP investors 

Get going early: The actual potential of compounding lies in time. Investors can fully realise the power of compounding if they start early and stick with their SIPs. Over time, even modest, consistent payments can result in a sizeable accumulation of wealth. The impact of compounding power is dependent on an individual’s investing horizon. Your interest income has more time to build up and produce significant returns if your investment horizon is longer. For instance, two people start investing in a SIP at age 25 and age 35, respectively, and invest the same amount. The earlier investor typically ends up with a greater corpus due to the extended time of compounding, even if the later investor contributes for an additional 10 years.

Maintain consistency: Consistency is a crucial aspect of SIP investment. By contributing a specific amount on a regular basis, regardless of market volatility, one can benefit from rupee cost averaging. The term rupee cost averaging refers to the ability to average the cost of a purchase over time by investing a consistent amount of money. SIPs normally allot a preset amount to a plan, and the investor receives units based on the net asset value (NAV). Consequently, the overall cost of acquisition is decreased and one is able to average their costs throughout market volatility. Further, it is imperative that there are no sudden withdrawals. The investor may lose out on the compounding benefits he or she has accrued up until that time if assets are liquidated before the investment period.

Also read | Which is the best day of the month to invest in an SIP?

Practice regular investment: For investors to gain a sizeable corpus from their investment portfolio, timely SIP payments are essential. Practicing regular investment and increasing the investment amount gradually allows individuals to reach their investment goals comparatively faster. The amount of wealth that can be created by reinvesting returns and letting the money grow over time is frequently greater than what might be obtained via other types of investment. Thus, it is essential to be patient and committed to one’s investing path in order to fully leverage the power of compounding through SIP.

The following table shows the monthly breakdown of the total amount, accumulated wealth and interest earned on a monthly SIP of Rs 1,000 and a one-time investment of Rs 2 lakh at a 10 percent annualised rate of growth compounded monthly:

The SIP of Rs 1,000 and a one-time investment of Rs 2 lakh at a 10 percent annualised rate of return compounded monthly showed a consistent increase in wealth throughout the course of the 14-month investment period. The opening balance in the first month is Rs 2,00,000, and the compounding amount comes to Rs 2,02,675 following the SIP investment and interest computation. The interest generated and compounding amount increased significantly over the course of the months, reaching a final compounding amount of Rs 2,38,548 after 14 months. This analysis captures the investment’s dynamic growth over the specified period.

Also read | SIPs work for debt funds, too. And, they beat bank FDs. Here’s the proof

SIP: Unveiling the pathway to robust wealth generation 

An SIP qualifies as a beneficial investment strategy in today’s scenario. This investment plan, which supports discipline and regular investments in top mutual funds, streamlines the investor’s complete wealth-creation process. In addition to being an organised approach to investing, it also harnesses the incredible force of compounding. The secret is to get started early and to stick with it. Investors can create the foundation for a stable financial future by embracing the power of compounding.