I personally am a fan of Systematic Investment Plan (SIP) in Mutual Funds for creating long term wealth. It has been marketed so well by mutual fund companies that everyone seems to see all positives but no cons. But as true for anything you do or plan, it’s essential to know about disadvantages of SIP. So here is a post to make you aware of the cons of Systematic Investment Plan and suggest if there is a way out?
What is SIP?
SIP is short form for Systematic Investment Plan. Also known as Rupee cost Averaging (in India) or Dollar cost Averaging (in US). It essentially means you can automatically invest your money systematically in mutual funds on a fixed time interval (daily, monthly or quarterly). When you start a SIP, you have to give an auto-debit mandate to your bank which transfers the money on the pre-defined interval to the mutual fund. The good thing about SIP is it automates the investment taking emotions out of the entire process. However we list down some of the SIP disadvantages and what you should do about them.
Systematic Investment Plan (SIP) Disadvantages
Following are the disadvantages of SIP
- SIP returns are lower in consistently rising markets
- Limited options of SIP dates
- Only Pre-defined Fixed Amount can be Invested by SIP
- Stopping intermediate payment in SIP
- Delay between actual application & start/stop of SIP
- SIP does not suit people with unpredictable cash flows
We cover each one below.
SIP returns are lower in consistently rising markets
Imagine this situation – Its New Year eve of 2009 and your rich uncle impressed by you & your cousin gifts both of you Rs 1 Lac. You both being financially prudent want to grow this windfall. You approach a financial planner and as every good planner would, he recommend you to invest in NIFTY BeeS using SIP. So you follow him and plan investment in 12 monthly SIP instalments while your cousin puts his entire money as lump sum investment in the same NIFTY BeeS. Who do you think made more money by 2010 New Year eve? Your cousin would have around Rs 1.72 Lac while you would have Rs. 1.37 Lac. So your cousin gained 25% more just by doing lump sum.
Lesson Learned: SIP is a good way to invest but occasional lump sum investment when the markets are highly undervalued adds to your gains.
Comparing SIP Vs. Mutual Fund Lump sum Returns
There is always a debate on what is the right way to invest in Mutual Funds – SIP or lump sum? We give you examples and situations on which of the investment method outperforms. Do read SIP Vs. Lump sum – Which is the Best way to Invest in Mutual Fund?
Limited options of SIP dates
For a SIP in Mutual Fund you need to decide a date in advance when you like to do your SIP and give an auto-debit mandate for the same. Most of the MFs have limited option (mainly 1st, 5th, 7th, 10th, 15th, etc). This is not usually a problem for most people and most researches show that there is no particular benefit of date of investment (SIP). However if you are someone whose cash flows don’t match to the SIP date, you may have to plan more.
Way out: For funds having an online option you can do SIP yourself on the date comfortable for you according to cashflows.
Only Pre-defined Fixed Amount can be Invested by SIP
There are times when you feel that markets are undervalued or you have received more money (like from bonus or gifts) and you want to invest more but then in SIP only a predetermined fixed sum gets invested. Same is the case when you want to invest less, you can’t do it.
Way out: Invest manually when you have more funds available or you feel market is undervalued
Stopping intermediate payment in SIP
It may so happen that you got an emergency or have a major expense this month and so you don’t want to invest. But with SIP this is not possible; if there’s money in your bank it will get debited and invested. The only way out is to cancel the SIP which is not easy if you have a lot of SIPs and also when you want to start again you need to go through all the formalities to start the SIP. Also for cancellation you need to inform 2 weeks in advance and even then you may not be sure that SIP would not be debited.
Way out: Remove the money from the account before the date of actual auto-debit. You won’t be charged anything from the mutual fund but your bank may charge you Rs 50 to 250 for failed auto-debit transaction. This no way impacts your credit score (in case someone may be wondering if the bounce auto-debit above would be recorded negatively).
Delay between actual application & start/stop of SIP
I feel this is very irritating and you may miss one monthly instalment; MF houses need at least a month to start a SIP and around two weeks to stop your SIP. I think it’s the time they should try to come up with quicker processing of SIPs.
Way out: You can invest online in the first month until you wait for SIP to start
Why Investing in Mutual Fund NFO is a Bad Idea?
As the stock market soars, so does the Mutual Funds NFOs. However our analysis says that NFOs are more profitable for sellers and the companies selling them rather than people investing in them. There are only few NFOs worth looking at. Read the detail on Why investing in NFO may not be a great idea.
SIP does not suit people with unpredictable cash flows
Think of someone who doesn’t have a predictable cash flow like a self-employed professional. He won’t be able to do SIP as he would be unable to commit a fixed sum every month.
Way out: Invest lump sum when ever you have funds available
Disadvantages of SIP
Even though SIP has disadvantages but it still seems to be one of the Best investment option available to a long term investor. It particularly suits First-time investors in equity and those who do not have a lump sum or the time to track their investments. The salaried class should also opt for SIPs since it becomes a good savings habit. Investors who do not wish to be stressed by market volatility should adopt the rupee-cost averaging method for secured long-term investment planning.