When not to go for SIPs :: Business Line

If not used judiciously, SIP as a tool can disappoint and sometimes end in you throwing good money after bad.

Systematic investment has been the mantra for investing in equities especially in the volatile markets of the last few years. Systematic investment plans (SIPs) allow you to invest small or large sums or invest in certain number of units/stocks, over regular intervals, thus averaging the cost of holding in an investment.

But if not used judiciously, SIP as a tool can disappoint and sometimes end in you throwing good money after bad. Here are instances where running an SIP can be risky.

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NOT FOR SHORT PERIODS

If you have a financial goal in the next one to two years, it may not be wise to invest through SIPs, especially in equity funds. Here’s an example: HDFC Equity is one of the well-established funds. But if you had a one-year goal in mind and started a plan in June 2011, your capital would have declined by 6.6 per cent over the one year ending June 1, 2012.

That does not mean that SIP as a strategy failed to average your costs. It means that you did not give enough time for the portfolio to gain from a possible rally.

In the above example, you would have been buying units at varying net asset values (NAVs) every month in the last one year, but markets hardly moved. In fact, the Sensex fell 14 per cent in this period.

Your SIPs may not have worked too well in a rapidly rallying market either. For instance, had you started an SIP in the same fund in, say, June 2007 and thought of a one-year holding period, your capital would have been down by 9 per cent, although on a point-to-point basis (June 1, 2007 to June 1, 2008), the fund made positive returns.

Why did your SIP underperform? Through 2007, you would have been buying additional units every month at higher costs. Only after February 2008 would you have started buying units at lower NAV, and then you stopped SIPs in May.

You thus bought units at higher NAVs for a good part and then quit just as you began to average costs.

Over a short time frame, you would have been buying either on lows or on highs. Unless your investments go through both highs and lows, your SIPs may not deliver reasonable returns.

An SIP in the HDFC Equity over 2007-12 would have expanded your investment by an absolute 35 per cent, despite stock markets currently being lower than their 2007 levels.

The lesson: Equity SIPs done over 1 to 2-year time frames can be risky, if the money is meant to meet a financial goal such as education or buying a car. You can instead go for recurring deposits, where returns, though not lucrative, will be assured. Or, you can keep the money in your savings account with a sweep facility to invest in fixed deposits.

SIPS IN THEME FUNDS

Most themes, whether commodity, infrastructure or consumer goods, go through cycles. The last five years, for instance, saw infrastructure and energy funds sharply underperform. Had you invested in them through SIPs, believing that you were buying into lows over the years, you would have either lost capital or received meagre returns. The best fund in the category managed an annual return of 5.6 per cent.

But what if you had SIPs in outperforming theme funds such as those with an FMCG focus? Even here, these would have delivered returns lower than lump sum investments. This is because your returns would have been muted by buying units at higher NAVs, since this theme was in an uptrend.

The lesson: Theme funds, barring secular themes such as banking, require active entry and exit strategies and constant tracking.

NOT FOR STOCKS PLEASE

Brokerage houses have started offering SIPs in stocks. You choose a stock and invest in it either daily or monthly. True, it helps get past the trouble of timing entry and combat market volatility. But what if the stock you chose begins to steadily fall for fundamental reasons?

For instance, the stock of Suzlon Energy was much fancied until the 2008 correction. If you had found it attractive post the correction and started an SIP in the stock from January 2009 and bought a stock a day, you would be sitting on a hefty capital loss of 65 per cent now. In other words, you would simply have been throwing good money after bad. When you run SIPs on funds, you are buying a basket of stocks. In stock SIPs, you are betting on one stock to deliver.

The lesson: Stocks are best bought in phases, linked to broad market corrections of say 8-10 per cent; that too only if you believe that there is nothing wrong with the company’s fundamental business. Else, buy indices such as the Nifty in market corrections of 5-10 per cent.