Article: SIPs and rupee cost averaging

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Concepts

Rupee cost averaging

• Approach wherein you invest a fixed amount of money at regular intervals
• Ensures that you buy more shares of an investment when prices are low and less when they are high
• You avoid the manual, complex task of researching the best time to invest
• Averages out the costs of your units 
• Lessens the results of short-term market fluctuation on your investments

SIP

• Systematic Investment Plan
• Facility offered by mutual funds to investors
• Helps you invest in a disciplined manner
• You invest a fixed amount of money at pre-defined intervals in the selected mutual fund scheme
• Amount can be as low as Rs. 500
• Intervals can be weekly, monthly, quarterly, semi-annually, or annually 
• Investor need not worry about market dynamics or timing
• Stands to benefit in the long-term due to average costing and power of compounding

Gist

• SIPs help you lower your investment cost and hence maximize returns
• When you invest through SIPs, you automatically experience the benefit of rupee cost averaging
• When you invest, you accumulate units at various prices called net asset value aka NAV
• You get more units when the market is down and the fund's NAV is lower and vice-versa

Why it works

Markets are volatile, hence it makes sense to spread your investments over a period of time to benefit from the lows that frequently occur

How it works

• Say you invest Rs 10,000 in a fund at each of these NAVs: Rs 100, 150, 200, 250, and 300
• Number of units accumulated (amount/NAV): 100, 66.66, 50, 40, and 33.33
• Total amount invested = Rs 50,000
• Total units = 289.99
• Average NAV = Rs 172.41 (This amount is less than three of the five NAVs at which you bought the fund!)

Conclusion

• SIPs: psychological tool of discipline
• By nature, investors are tempted to invest more when the market is racing and stop investing altogether when it is falling, which hurts returns
• SIPs automate the entire investment process and delink sentiment from investing
• Via SIPs, you benefit from rupee cost averaging to get a good return