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What is a Systematic Investment Plan and How Does it Work?

A Systematic Investment Plan (SIP) is the best approach to investing consistently and systematically. An SIP operates on the basic principle of investing on a regular basis, allowing you to accumulate money over time. SIP allows you to invest a certain amount of money every quarter, month, or week at your convenience.

How Does SIP Work?

Before you begin systematic investment, it is critical that you understand how a Systematic Investment Plan works. A SIP operates on the basis of continuous and periodic investments, similar to a recurrent bank deposit. The investment amount can be auto-debited from your bank account based on standing instructions, and the appropriate number of mutual fund units is assigned to you. The quantity of units received is determined by the scheme's current Net Asset Value (NAV).

It assigns you a number of units in exchange for the money you contributed to mutual funds.

Assume, for example, that the NAV of a mutual fund is now Rs 20. If you put Rs 1,000 into the mutual fund, you will be given 50 units of the scheme. As the NAV of the mutual fund rises, so will the value of your assets. So, if the NAV of this fund rises to Rs 30 the next year, the 50 units you purchased for Rs 1000 will be worth Rs 1,500 after the increment. This is how your investment increases, enabling you to build money over time.

Here are three advantages of systematic investing-

1. Average rupee cost

When you invest in a systematic transfer plan, your expenses are averaged out. The markets, as you can see, move in cycles. It is sometimes bearish, then bullish, and then bearish again This is how the cycle progresses.

So, if you invest a certain sum every month in a Systematic Investment Plan, you would be given additional units for your investments when the markets are bearish. Meanwhile, when the markets rise, the quantity of units allotted for your investments will be considerably lower. That is, when markets are down, you purchase more units, and when markets are at their top, you buy less. This helps in averaging your rupee costs.

Because your costs have been averaged out, when the market cycle shifts, for example, from bearish to bullish, this provides a chance to generate large profits. It will eventually assist you in creating significant money from your assets. So, if you invest in a Systematic Investment Plan, you don't have to worry about the ups and downs of the market cycle because the cost is automatically averaged out.

2. Compounding

The power of compounding allows you to get returns not just on the money you have invested, but also on the profits you have made. And in this way, you may amass a substantial sum of wealth over time.

Assume you have invested Rs 1 lakh in a mutual fund over the course of a year. It has a one-year return of 15%. This sum will be Rs 1 lakh 15 thousand at the end of the year. What the power of compounding does is offer a return on Rs 1 lakh 15 thousand in the next year (assuming a rate of return of 15%) instead of your original investment of Rs 1 lakh.

3. Inculcates Discipline

Investing with Systematic Investment Plans instils discipline in your investing strategy. Ace investors frequently propose that your day-to-day financial actions revolve around the basic formula Earnings – Savings = Expenses.

Assume you make Rs X per month, and if you are unable to manage your spending within a certain budget, you may find yourself with nothing to save at the end of the month.

However, if you invest in SIP, you will be forced to adhere to a strict investing programme. If you are conscious of your expenses, you will develop the habit of spending within your means.

The Bottom Line

Systematic Investment Plan has been the most popular way to invest in mutual funds in recent years. It allows you to save for your future financial objectives without placing too much strain on your present financial situation. All you have to do is exercise due research when picking the fund based on your investment horizon and pay the appropriate amount on time each month.

Disclaimer:

Tax benefits are as per the Income Tax Act, 1961, and are subject to any amendments made thereto from time to time
The article is meant to be general and informative in nature and should not be construed as solicitation material. Please read the related product brochures for exclusions, terms and conditions, warranties, etc. carefully before concluding a sale.
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