How many times have you been told about the power of compounding that translates even the smallest systematic investment plans (SIPs) into an enviable corpus that can last a lifetime? Take, for example, a simple monthly SIP of ₹10,000 for 30 years will yield you a corpus of ₹3,52,99,138 at 12 percent interest.
However, market volatility often refrains people from continuing their SIPs or encourages many to redeem their investments fearing losses. One may attribute this behaviour to ignorance regarding how SIP investments work and the lack of understanding of how small investments, if unbridled over a prolonged period, can help people achieve their financial goals.
Many invest in mutual funds via SIPs to invest regularly and mitigate the shocks of direct equity investment. Statistics by AMFI highlight the number of new SIPs totalled 23,24,070 in December 2022, suggesting an increase. The value of SIP investments rose to ₹13, 573 crore in December, up from ₹13, 306 crore in November 2022.
However, prolonged bear phases as in 2020 discourage investors to continue investments.
Some are more focused on building up an emergency fund ahead of a likely recession in 2023 and have relegated their SIP investments to the backburner.
Let's look at some of the common mistakes that investors make when investing in SIPs.
Investing too much or too less through SIPs
Many wrongly believe it is better to start investing a large sum on a regular basis, regardless of their financial situation, age, or financial goals. It is okay to invest in high amounts when you are young and don't have responsibilities. However, as you start a family, continuing your high-denomination SIPs may not help. The impact of loans and increasing financial responsibilities may take a toll on your regular SIP investments. Simultaneously, avoid choosing an extremely low instalment amount. A small sum will not bring your wealth up quickly.
Consider your financial situation before deciding on a fixed amount to contribute to SIP through the direct route. Assess the funds thoroughly, considering future expenses, inflation costs, life goals, and so on.
Opting for a short investment horizon
A common mistake that many people make is choosing a short-term SIP investment. They expect to be rewarded quickly and choose a three-year investment term. Apart, the suddenness of macro factors has caused many investors to go the “keep it short; keep it simple” way when it comes to deciding how long they wish to stay invested. They fail to recognise, however, that by selecting a shorter tenure, they expose themselves to a greater risk of market volatility and loss. Profit accumulation in a short period is also highly improbable.
Invest for a more extended period of time if you want to accumulate wealth over time. Remember that SIP rupee cost averaging over multiple market cycles has a much lower risk of loss and contributes to long-term wealth creation/inflation-adjusted returns. SIPs should be invested in for at least three years for medium-term and seven to eight years for long-term goals.
Stopping SIPs midway fearing volatility
Fear and panic grip investors as a result of a fund's poor performance during market volatility. As a result, they discontinue their SIPs abruptly. Any short-term volatility can affect the fund's return, but if you've chosen the right mutual fund, don't be swayed and remain patient. Mutual fund investing can only be successful if done over a long period of time due to the power of compounding.
When the market is down, you should continue with your SIPs because you can buy more units for the same price. This lowers the overall cost of investment in the long run. In a nutshell, make the most of the situation.
Ignoring your investments
There is no way that you invest and then forget to review your investments’ performance. However, this does not mean that you check your investments every day. Looking at your investments daily and hoping to see growth in them on an everyday basis is like sitting in a forest to see the plants grow into large, shady trees.
Many people do not bother looking at their investments once they have put money in them. This indifference towards investments can backfire in the long run. Every fund performs differently, and even the most solid mutual fund managed by the best fund manager requires oversight. If you don't monitor and review them, you may miss out on opportunities to build your corpus faster.
You should review, evaluate, renew, or rethink your investments on a regular basis based on the performance of your investment portfolio, and replace non-performing mutual funds with those with a high probability of good returns at least once a year.
Underrating the step-up option
Not considering a step-up option can be a barrier to growing your corpus to the desired level. Because of the power of compounding, SIP investments help you achieve your financial goals over time and provide inflation-adjusted returns. So, if you get a raise or a bonus, increasing/stepping up your SIP instalment annually at a fixed rate will help you accumulate a larger amount.
Choosing the dividend option over the growth option
Many people would be wrong to choose the dividend option to earn income through regular partial withdrawals if they are looking for long-term growth. This is unfortunate because it runs counter to the main benefit of SIP investments, and mutual fund companies and their schemes do not guarantee regular dividends. As a result, the compounding growth of your initial investment (the process of building wealth) does not reach its full potential.
Whereas in the growth option, your initial amount is reinvested multiple times and compounded exponentially to increase your wealth. Choose the growth option to receive compounded wealth and, eventually, reach your goals.
There is no better way to park money in mutual funds than through gradual and regular SIP investments. Investing in mutual funds through SIPs can help you meet your financial goals in the best way possible. It is an excellent option that, in addition to increasing wealth, helps to develop patience, focus, and discipline. Apart from ensuring regular SIP investments, you must take care to avoid succumbing to rumours and refrain from committing unwanted mistakes that delay your journey to financial independence.