All investments are carried out with a singular purpose. The said purpose is to earn extra income. Investments are carried out probably because the monthly income from full-time employment might not be enough. While usually a lot of Indians choose options such as FDs or any other type of bank account as an investment avenue, you may also consider investing in the market. To carry out investments in the market, you need to select investment tools or investment schemes as they are referred to. One of these investment schemes is mutual funds.
Mutual funds are an investment tool in which an asset management company or AMC collects money from a group of investors to pool them into a fund. Once enough money is collected into a fund, the AMC uses it to purchase financial securities like money market instruments, gold, bonds, and stocks. When you opt to purchase a unit in a mutual fund scheme, you get a chance to own a small stake in all the investments that are considered a part of the fund. An investment in mutual funds can be considered prudent because they are known to offer a wide range of advantages.
However, the question remains. It is, how to invest in mutual fund schemes? To invest in mutual funds, there are two investment options or investment modes. Those two modes of investment are lump-sum investments and systematic investment plans or SIPs.
Under lump-sum investments, you are expected to make a one-time payment. SIPs, on the other hand, are different from that.
Under systematic investment plans, you choose to pay for your mutual fund scheme investment through monthly deductions. When you leave a standing instruction with your bank, you are not even required to pay for the investment yourself. The amount required for investment will be deducted from your account automatically.
How do they work?
Before opting to sign up for a mutual fund scheme, an investor needs to determine things like their own financial goals and investment horizon. After ascertaining those things, people sign up for the mutual fund scheme. After signing up for the mutual fund scheme, the investor regularly sets aside a fixed amount every month for mutual fund investments. A predetermined amount is auto-debited from your bank account at already-fixed intervals. The debited amount is invested directly into your preferred schemes. A certain number of units are purchased using your invested principal. The purchase of units is carried out after studying the current market price of the financial security. If you are a risk-averse investor, you can consider signing up for SIPs as they are one of the preferred ways of investing when the market is volatile.
Why should one consider signing up for SIPs?
One of the numerous reasons why you should consider signing up for systematic investment plans or SIPs is that they come with the feature of compounding. Under these plans, the revenue generated through the mutual fund scheme you are investing in is reinvested. As time passes, this repeated action may lead to a snowball effect. Simply put, it means that the return on your mutual fund scheme may increase over time if you were to hold on to your mutual fund scheme for a long time. It is also possible for you to enjoy the benefit of the compounding by electing to extend the investment tenure for a long time.
How does compounding works in mutual fund schemes?
Mutual fund schemes are designed in such a way that they could make the most of the power of compounding. Your investments gain profits whenever the value of the fund experiences a rise. If you are investing for a long-term goal, then, the feature of compounding may function to its fullest, meaning, you grow your investment. Then, the returns earned in the form of capital gains are reinvested to create additional profits. For instance, if you were to choose to invest ₹1,000 every month for the next decade one your mutual fund scheme through a SIP. And, If the rate of return on the investment is 8% every year, then you may notice that your investment of ₹1,20,000 may yield you a return of ₹1,82,946. Furthermore, if you consider investing it further for another decade, then, the return now reinvested may fetch you ₹3,94,967.