Investment Tips: The Indian stock market is currently experiencing high valuations, and in such an environment, every investor faces the big question: whether it’s better to invest a lump sum in an equity fund now or to invest gradually through regular SIPs. Both methods have their advantages, but mathematics provides a clear perspective on this matter.
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Investors’ dilemma when the market is high
When the market continues to move higher, new investors often fear that their lump sum investment might be at the wrong level. This is why many people opt for SIPs to take advantage of market fluctuations and achieve cost averaging. However, it’s important to understand that even if capital is already available, the complexities of market timing can sometimes limit an investor’s profits.
The Mathematics of Compounding Favours Lump Sum Investments
If a person has a year’s investment amount already set aside, mathematics suggests that a lump sum investment will always yield higher returns. This is because the entire amount starts compounding from day one. In contrast, a SIP involves investing in small instalments, which only begins compounding after a month, reducing the overall return.
Example
Suppose an investor invests Rs. 10,000 every month through a SIP for ten years. At a 10% annual return, the final corpus is approximately Rs. 21.2 lakh, while at 12%, it reaches Rs. 23.9 lakh, and at 15%, it reaches Rs. 28.8 lakh.
Now, if the same investor invests Rs. 1.2 lakh as a lump sum every year, after ten years, their return reaches Rs. 23 lakh at 10%, Rs. 26 lakh at 12%, and Rs. 31.5 lakh at 15%. This means that despite the same capital, the results are greater.
The difference is even greater in the long term
If the period is increased from 10 years to 15, 20, or 25 years, the difference between a lump sum and an SIP becomes even more pronounced. Compounding works incredibly powerfully over the long term, multiplying the capital invested from day one.
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Isn’t SIP still necessary?
The importance of SIPs remains undeniable. They instil discipline, average out costs over time, and instil a habit of regular savings. They’re also ideal for those with a monthly income and a lump sum available. However, if your question is based solely on math and returns, lump sum investing proves to be more powerful in the long run.
