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Systematic Investment Plans (SIPs): When do SIPs Work – Axis Direct
AxisDirect-O-Nomics
May 24, 2018 | Source: www.moneylife.in
When Do SIPs Work, And When They Don’t
When SIP Works
Bull or Rising Market: SIP would yield positive results in a bull, or rising, market as every new purchase, although made at a higher cost, is valued at an even higher price, finally. However, as seen earlier, in such a case, it would be wiser to buy the entire investment in one go rather than keep ‘averaging upwards’ through the SIP route.
Volatile but Rising Market: SIP should perform well in a volatile but, ultimately, rising, or bull, market. This would be the market in which the ‘rupee cost averaging’ would work most favorably for the investor, as volatility would lead to the best possible average price. The final rising or subsequent bull market would ensure that the end price is higher than the average price.
Market Corrects Downwards and Then Moves Up: This would be another case in which SIP would perform well and, in all likelihood, be better than initial lump-sum investment. This is because the investor will get the advantage of the intermediate correction to lower his average cost.
But does this mean that SIP works under all market conditions? Certainly not. So, let us now examine the market conditions under which SIP would not work.
When SIP Does Not Work
Bear or Falling Market: SIP would not work and, in fact, yield negative returns in a bear, or falling, market as every new purchase, although made at a lower cost, would eventually be valued at an even lower price. In such a market scenario, SIP might outperform lump-sum investments as the investor will get the benefit of averaging downwards but the investor will still lose money. I believe, it should be the endeavor of every investor to make money by investing and not simply ‘lose less’.
Sideways Market: SIP would not work in a sideways market, as you will not get the benefit of rupee cost averaging and the final value would be closer to the average cost. In a sideways market, the difference between the performance of SIP and lump-sum might not be significant.
Market Moves Upwards and Then Moves Down: This would be one more case in which SIP would not perform because the investor will actually be hurt by the SIP as he would be ‘averaging northwards’ while the final value would be much lower due to the subsequent market correction. In fact, in this scenario, lump-sum would perform much better than SIP, as it would not be subjected to the negative effects of higher rupee cost averaging.
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