Systematic Investment Plan (SIP) offered by mutual funds allows investors to invest a set amount in a mutual fund scheme on a regular basis, such as once per month, as opposed to lumpsum investments. SIP has been gaining popularity among Indian investors; it is thought to be the most convenient way to invest in mutual funds through standing orders to automatically deduct a certain amount from your bank account each month without the burden of making contributions manually. The advantages of investing in mutual funds through an SIP include:

  • Enables you to invest small amounts as low as Rs 500/- at regular intervals, it's lighter on the wallet

  • It infuses the habit of investing regularly and is it an effective medium to accomplish vital financial goals

  • Enables rupee-cost averaging

  • It makes timing the market irrelevant

  • It provides the benefit of the power of compounding

According to the data from the Association of Mutual Funds of India (AMFI), despite the volatility in the markets during the current financial year, the Indian mutual funds have stood at 6.12 crore (61.2 million) SIP accounts through which investors regularly invest in various mutual fund schemes. And the total amount collected through SIPs in the previous month (December 2022) was Rs 13,573 crore.

Graph 1: SIP Contributions likely to maintain an upward trend (past 5 years data)

Data as of December 2022
(Source: AMFI) 

However, the latest data from AMFI reveals a bumpy statistic – mutual fund investors in large numbers are discontinuing their monthly SIPs or allowing them to run out. In 2022, while there has been a decent inflow of SIPs despite the high market volatility, on the contrary, the growth in discontinuation of SIPs has reached close to SIP account registrations.

As per AMFI data, the number of account cancellations for SIP hit a record high of 15.4 lacs in December 2022 amid shrinking one-year rolling equity returns. The average monthly discontinuation was 10.82 lacs in the past 12 months.

Graph 2: SIP closures increase sharply in 2022

Data as of December 2022
(Source: AMFI) 

When asked about SIP closures, the AMFI Chief Executive, Mr NS Venkatesh, explains that “The number of SIPs discontinued or tenure completed in December 2022 is approximately 2.5% of total SIP folios in the industry. Between January and December 2022, 1.21 crore net new SIP folios were added, and monthly SIP contribution has gone from Rs 11,517 crore in January 2022 to Rs 13,573 crore in December 2022”.

Why there is an increase in the discontinuation of SIPs in mutual funds?

The industry experts have cited the already high SIP base, the poor one-year returns, and the influence of post-COVID savings withdrawals as the causes for increasing SIP closures.

Slump in the near-term returns:  Investors who began investing through the SIP route over the past one year are disappointed today due to low returns. The past one-year returns play a big role in retail investors’ decisions; however, this should not be the case.

Table: 1-Year vs long-term returns across equity-oriented mutual funds

Category SIP Returns (%) Category Average
1 year 3 years 5 years 7years
Large cap funds 5.05 13.86 12.52 11.83
Large & Mid cap funds 3.66 16.40 14.66 13.36
Mid cap funds 2.76 19.01 16.79 14.92
Small cap funds 4.83 26.09 21.48 17.91
Multicap funds 4.70 18.43 16.93 15.02
Flexicap funds 2.40 14.24 13.58 12.80

Data as on February 05, 2023
(Source: ACE MF) 

Although the recent year’s returns from the equity-oriented schemes across market cap have been mediocre, equity mutual funds are a popular choice for SIP investors. Many investors converted to equity SIPs as a result of the pandemic, which caused interest rates on FDs and other debt instruments to drop to historic lows and stock markets to soar.

When markets are strong, a flood of new investors join mutual funds, mostly through SIP, and some of them leave if their return expectations are not met within a year. The return experienced during the previous year was incomparable to the post-COVID rally. Consequently, it’s possible that some of the new investors have lost hope. However, the biggest mistake that investors can make when there is a slowdown in SIP returns is to stop their monthly investments.

Decline in savings by investors: Some market watchers say that SIP closures could be a function of incomes not recovering to pre-COVID levels. It is possible that some investors may have deployed their covid savings in properties, triggering a housing revival and heavy EMIs payments that have reduced the scope for continuity in SIPs.

Despite these challenges, industry participants seem to believe that the outlook for SIPs remains good. SIPs, in general, will see growth with more financialisation of savings and acceptance of equities for long-term wealth creation.

Why you should continue with your SIPs

Prolonged bull or bear phases with low or negative returns may deter investors from continuing their SIPs. There are certain market conditions when SIPs do not lead to wealth creation; unfavourable markets allow you to gather more units since the Net Asset Value (NAV) of a scheme falls too. Whereas during a market uptrend, naturally, the NAV rises, and you earn high returns on your investments (as you accumulate more units during the downturn).

Having said that, SIPs tend to work on the principle of rupee-cost averaging by investing a fixed amount every month. Investors are able to buy more units when the NAV of the scheme falls and fewer units when the NAV rises, thereby averaging their cost of purchase.

[ SIP Calculator ]

However, equity investments made through the SIP route can also be volatile. In case you have started your monthly SIPs in equity mutual funds amidst the market rally, there are chances that your SIP investments may disappoint you in the short term. This is because equity mutual funds are meant for the long term. When you judge a fund based on its short-term underperformance in a volatile market phase, you tend to overlook its long-term track record.

A winning mutual fund could be affected during market turbulence, still the magnitude of the fall or its susceptibility needs to be evaluated carefully before you decide to discontinue your SIP or liquidate in a panic. Thus, avoid discontinuing your SIPs based on the decline in 1-year rolling return, instead, track its consistency in performance over a longer period, say 5 to 10 years. Also, evaluate the scheme based on various qualitative and quantitative parameters.

When you discontinue SIPs in falling markets, you shift your focus from your asset allocation plan and start giving undue attention to market movements. In the short run, sentiments drive markets; but in the long run, fundamentals steer them up or down.

Discontinuing your SIP investments due to market noise and volatility can derail your path to achieving your financial goals. Over a period, the inherent rupee-cost averaging feature of SIPs would take care of the intermittent volatility, more units will be added on during the corrective phase of the equity markets, and when the market begins to ascend again, this strategy will compound your wealth. In the long run, SIP-ping in equity mutual funds by aligning well to your financial goals can prove rewarding as opposed to investing in bank FDs or other traditional avenues for the long term.

That being said, are you wondering for how long should you continue SIPs? In simple words, what is the ideal tenure for your SIP instalments?

Well, the ideal tenure to continue your SIPs in mutual funds is related to your S.M.A.R.T financial goals. This is because every financial goal, like, children’s education needs, their wedding expenses, buying a dream house and your retirement, is unique and has different investment time horizons. In order to accomplish these goals, aligning the SIP tenure and choosing the appropriate category and sub-category of mutual funds should be an indispensable and fundamental aspect of your portfolio-building exercise.

For instance, if you are investing in SIPs for your child’s higher education, you may assess these points:

  • The current age of your child.

  • The number of years you have before your child enters higher education.

This would define the SIP tenure for which you should continue investing in worthy mutual funds.

Since SIPs in equity mutual funds are market-linked, the fear of high market volatility is also one of the reasons for the discontinuation of SIPs by risk-averse investors. You must be thinking, is it safe to invest in equities during such uncertain market conditions?

You see, while SIPs are not safe investment options, but if you select equity mutual funds wisely, they create wealth in the long term, enabling you to realise the envisioned financial goals. SIPs allow you to invest regularly, even in small amounts, and since you do not invest a heavy lumpsum, it mitigates the downside risk.

To conclude…

SIP can prove to be a rewarding strategy provided you are choosing your mutual fund schemes appropriately, contributing a meaningful sum in line with your financial goal/s, following the right asset allocation, and making a point to timely review and rebalance your mutual fund portfolio prudently.

This article first appeared on PersonalFN here

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