Long-term SIPs offer better investment returns

The reason why anyone invests in an Equity Mutual Fund (EMF) is to make profits. However, equity markets behave strangely and almost all of the investors in EMF would have experienced losses at some point of the investment though could only be a notional one.

This is because equity markets are not linear in movement and they have dips which create losses to the capital at least notionally.

Despite knowing that equity investments are for the longer time horizon, these notional losses always hurt the confidence of the investor and thus make it difficult to remain invested.

As per a study by Value Research on SIP performance of diversified equity MF over the last 25 years found some interesting insights.

The shorter the SIP contribution period, the higher the probability of losses. Considering the broader index, Niftyhas given a high of 75.8 per cent and a trough of -51.8 per cent in a single year.

So, someone has done a SIP for just a year, there is a 22.5 per cent chance of making a loss i.e. almost a quarter. The beauty is that as the tenure increases, data suggests the probability of losses decrease tremendously.

So, a two-year SIP investment in a diversified MF carries a probability loss of 16.2 per cent and interestingly on a five-year period the possibility of SIP investment has 3.3 per cent and it decreases to a meagre of 0.3 per cent on a ten-year period.

Thus, the possibility of making a loss through a SIP in a diversified MF is almost negligible over a ten-year period.

Contrastingly, the longer the SIP period, the better are the chances of double-digit returns through investment. The probability of getting more than 10 per cent returns is about 55.6 percent in a single year.

And this seems to get better with the increase in SIP tenure, the probability grows to 56.9 per cent.

For five-year period of SIP investment, the probability has increased to 63.8 per cent to get a double-digit return while for a ten-year period of SIP investment the probability of the study gives 77.3 per cent chances.

The takeaway from this study is that the risk to reward is higher if the investment is for longer periods of time and so its important to have a longer horizon for SIP investments.

Then another important factor is about timing of the SIP initiation or closure. Many carry misconceptions about timing the market and particularly with SIP it turns out to be futile.

Of course, market cycles play out our chances of making better returns or not but to time the market if not impossible, is highly difficult, always.

Hence, when an investor begins his SIP during market peaks, the possibility of losses is high for an investor if the tenure is for just one-year.

Domestically, bear markets have lasted over a period of 12 to 24 months and so ideally any SIP investment of over three years fares better than two or one-year contributions.

Thus, a SIP investment of three years could break even and could pave for better chances of positive returns. This makes it for the investor to not to concentrate on timing of SIP if the investment period is 10 years and above.

As the study puts out, if one coincides their initiation of SIP in and around the market peak they just need to extend the tenure to make good of their contributions.

Of course, sitting tight is always advised in stock markets only if one manages to pick right. So, it's critical to invest in a right fund and continue to invest for long.

The better way to avoid falling into the trap of sticking to the wrong fund is to evaluate the fund's performance with benchmark and peers periodically.

A consistent top-quartile performance could help investors make higher returns in the long run.

(The author is co-founder of "Wealocity", a wealth management firm and could be reached at knk@wealocity.com)