Why SIP is an effective tool to combat volatile markets

Why SIP is an effective tool to combat volatile markets

Heraclitus, the famous Greek Philosopher, once stated that change was the only constant. This is not just a general philosophy for life. It also applies to the stock market. Markets will always be volatile, regardless of the economic and market conditions. This makes markets unpredictable and provides investment opportunities for those who are willing and able to analyze their options and take advantage of the changes.

Volatility can also cause emotions. Some investors are able to ride the market's favorable trend and make optimal decisions. Others can lose their way and make rash decisions if the markets turn against them.

This article will focus on SIPs and their relationship to market volatility. But before we get started, let's look at what market volatility is.

Market Volatility: A Short & Long Term Perspective

Market volatility can have a significant impact on investments in the short term. Take 2020 as an example. The pandemic-induced volatility caused market turmoil for several months. Many investors panicked and sold their investments, while others saw the opportunity to make purchases. As markets recovered, some investors saw strong returns while others had to take losses. This is how volatility can affect short-term investments.

You will see that volatility does not have any impact on performance over the period of 5-10 years.

Why is volatility being discussed here? SIPs and their methodology bodes well for virtually all market conditions.

Systematic Investment Plans in Volatile Markets

A systematic Investment Plan, or SIP, is a way to invest that allows you to set a regular amount regardless of market cycles. Many mutual fund schemes offer a SIP option that allows investors to choose the investment amount and time period.

Now, let's talk about market volatility. Volatility is a common characteristic of volatile markets. There are ups and downs all the time. The timing of your purchase is crucial in determining profitability when you buy in volatile markets. The time it takes to generate returns can be longer if you buy in a high market. Timing the market can be risky.

Here is where Mutual Fund SIPs make sense.

A SIP is a way to invest a set amount at regular intervals. You can buy more units when the markets are low than high. You will have more units over time than if you buy in one lump sum or timing the market. The units' value goes up when markets are up.

In the long-term, each unit will cost you an average of $1, which is a good deal and can generate good returns.

This is Rupee Cost Averaging (RCA).

Here's a quick reminder about Rupee Cost Averaging in SIs

An example is the best way to explain Rupee Cost Averaging.

Let's suppose that you choose a SIP of Rs.5000 each month for a year in mutual funds. This example uses the NAVs and units.

Let's look at how the investment performs throughout the year.

Number of units = Investment amount/NAV

Here, each month Rs 5,000 is divided into NAV units to get the total number of units.

• Total investment = Rs.60000
• Total units received = 1376.06
• NAV at December's end for SIP tenure = Rs.48
• Dec. Investment Value = Rs.66050.23
• Profit = Rs.6025.23

A SIP is a way to lower the cost of your purchase because the market is volatile and the NAV fluctuates. You would need to spend Rs.79811.48 to buy 1376.06 units in January. You can get the same units by choosing a SIP for Rs.60000.

In volatile markets, rupee cost-averaging can help you increase your returns and decrease the risk of investing in high markets.

Markets have grown despite all the volatility. There is no reason why your investments shouldn't be able to grow alongside the markets. To turn volatility into potential, you need a long-term investment plan and smart decisions such as choosing a SIP. Here are some tips to help get you through market volatility.

Historical Perspective of the Markets

We'll be looking at BSE Sensex's performance over the past 25 years.

The chart shows the market's ups and downs over the past 25 years. Despite the Dotcom Crash (1997), 9/11 disaster (2001), Global Financial Crisis (2008) and US Sovereign Rating downgrade (2011), China’s Economic Slowdown (2015), and Covid-19 (2020), over the years, the Sensex has increased more than 10 times. You can also generate good returns on your investments, no matter when they are made. If you only buy solid stocks and keep them for a reasonable time, you will be able to make good returns.

This is why it's possible to earn good returns by holding onto fundamentally sound investments in times of market volatility. But what about new investments? Do you need to invest in volatile markets? Yes. Yes. But how do you invest in a market that is hitting new lows each day?

Here are some quick tips for investing during volatile times

• Evaluate your investment portfolio market volatility is often a result of a social, political, or economic event. Know the consequences of these events on your investments. You must remember that only fundamentally strong companies are able to weather any storm. You can assess whether your investments are able to withstand volatility and make adjustments accordingly.
• Avoid emotional-based decision serves can become a problem when markets are volatile. Investors panic and sell in order to reduce their losses, while others look for the right time to invest in a lump amount. Investors must be able to ignore emotions, even if they are willing to take on the risk of investing in market movements and earning short-term gains.
• Long-term thinking is key volatility is often caused by external events. Once the crisis is over, markets rebound to their fundamentals. If you invest in strong companies, you have a better chance of earning long-term returns.
• Diversification across asset classes is essential in all market cycles. However, it becomes more important when volatility strikes. A diversified portfolio reduces the risk of volatile markets due to investor sentiment. You can spread your money among different asset classes such as equity, debt, and real estate.
• Keep calm and be patient consider a SIP if you are considering discontinuing it, especially if you need to do so for an emergency. This is because the SIP can provide rupee cost averaging benefits and lower unit costs. Examine the portfolio composition of the scheme and how the fund manager manages such market cycles.

Summarising

Even the most experienced investors can be scared away by volatile markets. You must remember, however, that you can survive these storms by having a long-term, disciplined investment strategy. It doesn't take short-term volatility into account. A systematic investment strategy is uniquely placed to take advantage of these market periods. Focus on the basics and make use of the right tools to get the most out of the market cycle when it gets difficult.

Best Wishes For Investing and Good Luck For The Future!