SIP vs Mutual Fund: Where should you invest?

The main difference between SIP (Systematic Investment Plan) and mutual funds is that SIP is a method of investing in mutual funds, whereas mutual funds are professionally managed portfolios of stocks and bonds.

Let’s say you want to go to Goa for a much-needed vacation.

You have two options to get there: train and plane. You compare the time and cost required by each option and decide to go to Goa using one of them.

However, will you ever compare Goa with a train or Goa with an airplane? No, right?

We can apply the above situation to mutual funds, SIP, and lumpsum.

Mutual funds -> Goa

Train -> SIP

Plane -> Lumpsum

Although closely associated, SIP and mutual funds are not directly comparable.

SIP and lumpsum are simply methods or strategies of investing in mutual funds like train and aeroplane are options to get to Goa.

In this article, we will understand mutual funds and SIP and how you can leverage SIP to create wealth and achieve your financial goals.

What are mutual funds?

Mutual funds are professionally managed investments that pool money from many investors and deploy it in securities like stocks and bonds to generate returns.

For this service, they charge you a small fee called the ‘total expense ratio.’

So mutual funds create a win-win situation for investors like you and themselves. You get to generate returns on your savings while the mutual funds get to charge you a small fee and run their business.

Advantages of mutual funds

Mutual funds are the most reliable way for most investors to invest in the financial markets. Here is why:

Professional Management

The biggest advantage of mutual funds is that they give you access to professional investment managers (fund managers).

Qualified investment professionals are very likely to do a better job of investing our money than most of us who have no formal training or experience in the financial markets.

An Ocean of Choices

Mutual funds have various categories and subcategories which gives plenty of options for investors to choose from.

It is up to you to choose and invest in mutual fund schemes that suit your risk level and financial goals. You can always rely on a financial advisor to help you select the right mutual fund schemes for you.

If you are looking to invest in the stock market through a mutual fund but don’t want to take a lot of risk, you can invest in large cap mutual funds. Large cap mutual funds carry the lowest risk among equity funds because they invest in the largest companies that tend to have stable businesses and predictable revenues.

On the other hand, debt mutual funds offer regular income and moderate returns at lower risk as compared to equity funds.

Tightly Regulated by SEBI

The SEBI or the Securities and Exchange Board of India is the watchdog of India’s capital markets. It is also the regulatory body of the mutual fund industry.

The SEBI has laid down rules that protect investor interests and curb illegal, unethical and predatory practices in the financial services industry including mutual funds.

Categorization of mutual fund schemes, ceilings on total expense ratio and risk management framework are some of the areas, among many others, that the SEBI tightly regulates to protect investors.

Accessible to everyone

An important feature of mutual funds is that they are easily accessible to investors due to digital investing and low minimum investment amounts.

It is possible to invest in mutual funds of your choice from the comfort of your home thanks to digitalisation in the financial industry. There are dozens of websites and mobile apps like Dezerv (an AMFI registered Mutual Fund Distributor) that help you invest in mutual funds within minutes.

Further, investing in mutual funds doesn't require you to invest a lot of money. Most mutual funds allow you to invest as low as Rs. 100 to get started.

Diversification to reduce risk

Mutual funds are diversified by design. Diversification refers to investing in many securities across different sectors (for equity funds) and instruments (for debt funds).

To understand the benefit of diversification, let’s say you invest Rs. 500 in stocks of a single company and the same amount in a mutual fund that gives you access to 50 stocks.

The investment made in the single stock is subject to many risks: low revenue generation by the company or worse, the company shuts down for some reason. Simply put, your Rs. 500 in a single stock is subject to many known and unknown risks that make your investment very volatile and risky.

But the moment you start diversifying your investments across different stocks (or debt instruments), the risks of investing start going down. This is why mutual funds diversify your money across multiple stocks/bonds.

Affordable investing

Investing in mutual funds doesn’t need you to pay an exorbitant fee to the mutual fund company/fund manager.

As per SEBI restrictions, mutual funds can charge a maximum total expense ratio of 2.25%. This means 2.25% of the money you invest is deducted from your investment over the course of a year and retained by the mutual fund company as fee for their services.

In reality, mutual fund expense ratios are clustered in the 0.5% to 1.5% range making mutual fund investing affordable.

Understanding SIP (Systematic Investment Plan)

SIP is a disciplined method of investing in mutual funds that automates and simplifies your mutual fund investing process.

To start a monthly SIP, you need to define the following:

Mutual fund scheme for SIP
Investment/SIP date
Investment/SIP amount

With these inputs and a bank mandate in place, you can start and automate SIPs in the mutual fund schemes of your choice online.

But what are the benefits of investing in mutual funds through SIPs?

Advantages of SIP

SIP is not only a seamless way of investing in mutual funds but also has many benefits that are in line with time-tested investment ideas and impact your returns.

Aligned with your salary frequency

Someone has famously put: Invest first, spend next. A simple habit that will make you wealthiest.

So many folks complain that they don’t have money to invest by the end of the month. But the thing is that even if their income doubles, they may find themselves in a similar situation because they are doing the reverse of what they are supposed to do.

Of course, not everyone is privileged to earn more than their basic expenses but if you do, you should still be investing first and spending later.

The beauty of SIP is it also aligns with your salary/income frequency: monthly.

You know the precise date you will receive your salary and scheduling your SIP for a day or two after your salary date will ensure that you invest first and make investing a habit.

Rupee cost averaging

Rupee cost averaging refers to averaging your investment cost by making a fixed investment regularly irrespective of the market position and minimising the impact of market volatility.

Here’s how it works:

We know that the stock market is volatile. One day it could be up 2%. On the next, it could be down by 5%. That’s just how it has always been and will continue to be.

When you invest through an SIP, you don’t care where the market is. All you care about is making an investment on the same day every month. But over a long period of time, your cost of investing will be averaged out because you would have invested when the market was up and when the market was down.

For rupee cost averaging to take effect, the frequency of investing doesn’t matter much as long as the SIP is executed over a sufficiently long period of time.

Eliminates timing of the market

Investing in mutual funds through SIP eliminates the need and temptation to time the market because you invest on a fixed amount on a fixed day every month.

Let’s understand what is ‘timing the market’:

As we saw in the section above, the stock market is volatile.

Many try to take advantage of this volatility by trying to predict market movements. This generally involves buying securities like stocks at lower prices and selling them at higher prices. This is also called ‘timing the market.’

However, most end up doing the opposite because consistently timing the market is borderline impossible for most folks. Yet, the adrenaline rush of timing the market compels investors to attempt it despite knowing that the odds are stacked against them.

Flexibility

SIPs are flexible. You can start at any time, you can stop/pause it any time, you can choose any fund or you can change your fund for SIP.

SIP gives you a lot of flexibility, and if your situation changes (like your income increases or decreases), you can simply adjust your SIP amount for future instalments.

This flexibility makes it easy to start and adjust your SIPs, if required.

Should you invest in SIP or mutual funds?

As we saw, mutual funds and SIP are not comparable. So the right question to ask is ‘Should you invest in mutual funds through SIP?’ and the answer is YES!

As we saw, mutual funds are a route to generate returns from savings. You get to leverage the experience of investment experts at an affordable cost.

SIP should be especially considered by young professionals who may not have a sizable amount to invest because of low investment required to start a mutual fund SIP.

Finally, investors who are considering investing in stocks directly should strongly consider mutual funds.

Direct stock investing, although lucrative from the outside, requires a lot of time and effort. And even after putting in the time and effort, success is not guaranteed. It’s always better to leave financial, especially investing, problems to experts.

In fact, even creating a mutual fund portfolio and managing it is not as easy as it seems.

At Dezerv, we have a bunch of investment experts who create and manage diversified mutual fund portfolios. You can explore them by downloading our app.

Android app: https://play.google.com/store/apps/details?id=com.dezerv&hl=en_US

iOS app: https://apps.apple.com/in/app/dezerv/id1591432221

SIP vs Mutual Fund FAQs

Is SIP better than mutual funds?

SIP and mutual funds are not comparable. Mutual funds are investment instruments and SIP is one of the methods or strategies to invest in mutual funds.

Is SIP the same as mutual funds?

No, SIP and mutual funds are not the same. While mutual funds are professionally managed investment instruments, SIP is one of the two most popular mutual fund investment methods, the other being lumpsum.

Is SIP better than lumpsum for mutual funds?

Your financial situation and market conditions need to be considered if SIP is better than lump sum. We have attempted to answer this question for you in a separate article.