Smart investing | SIP or lumpsum investments: Which is better?
For those investors who can recognise market cycles, identifying a market low and investing a lumpsum amount at the right time could generate higher returns. For the rest, SIP is better.
After a continuous rally of more than 18 months without any major corrections, the Indian stock market exhibited signs of downward spiral in the month of October 2021. Since then, it has been showing signals of consolidation and is still down by around 6% from its peak. Many investors who missed the rally earlier might be thinking about entering the equity market aggressively and even consider making lumpsum investments. Now let us discuss whether it is a good idea to make lumpsum investments at this juncture.
Current market levels
With the spectacular return during the last one and half years, the leading index (Nifty 50) started moving into a consolidation phase in November 2021. Nifty hit an all-time high of 18,604 in October 2021 before it started moving to a corrective phase and hit a low of 16,410 in December 2021. Again, on January 18, it tried to breach its all-time high but failed to penetrate and continued its southward journey once again. However, after the Budget, an upward movement started. Owing to geopolitical tensions regarding Russia and Ukraine, earnings season, Budget contours, inflation, etc., the market seems to be directionless and is down by 6% from recent lows. The current PE and PB and other leading indicators show that the stock market is neutral (not low) and near-term direction is not clear.
Advantages of lumpsum investing
For those investors who can recognise market cycles, identifying a market low and investing a lumpsum amount either directly into equity or an equity oriented mutual fund at the right time could generate higher returns. This is based on the basic principle of investing—buying low and selling high. Lumpsum investing provides considerable returns for those investors with a long-term investment horizon of five to seven years. Often, it could help to achieve specific financial goals like investing for a child’s education fund or for a retirement fund. It requires a one-time but significant cash outflow.
However, an ill-timed investment could result in huge losses and lost confidence in the market. After investing a large amount of money in one go, investors become very anxious. For instance, if an investor invests Rs 10 lakh in direct equity or an equity fund or an aggressive hybrid fund and the market then falls, their investment will also go down and that might be quite unnerving. Owing to this, investors may hesitate to pump in money again.
SIP vs lumpsum
Systematic investment plan (SIP) and lumpsum investments allow investors to benefit from potential wealth creation in the long run. However, the major difference between the two is the frequency of investment. In fact, SIPs allow investors to pump in money into a mutual fund scheme periodically, such as daily, weekly, monthly, quarterly, half-yearly, etc. One can invest via SIPs with as low as Rs 500 per month while lumpsum investments require significant cash outflow.
To conclude, those investors who can understand the pulse of the market may go ahead with lumpsum investments as it would yield better results than investing in SIP. For those who do not have a lumpsum amount or much knowledge about the market, SIP is the best option which will also inculcate a sense of discipline.
The writer is a professor of finance and accounting, IIM Tiruchirappalli.