Lump sum vs. SIP is a meaningless comparison

Lump sum vs. SIP

‘Which is better? Another school of thought believes in creating a lump sum and waiting for market dips instead of a SIP. The trouble with this approach is that, one may have to wait for months and months for an investment opportunity to show up. The bigger problem is how the opportunity is defined.

 A lump sum investment or a SIP investment?’, is a question I am asked  often (comments, meetings, emails, questions during investors workshops etc.).

Here is why I think such a comparison is meaningless because it originates in a lack of understanding of how a SIP works.

This argument can and should be dismissed in seconds:

• If I have a lump sum now, which I can afford to invest for 10+ years, then the prudent thing to do is to get rid of it as soon as possible (if not instantly, over a duration much lesser than 10Y – a few weeks, or a couple of months at best)
• If I don’t have a lump sum now, why am I even asking this question!

To understand why it makes sense to invest the lump sum as quickly as possible, we will need to understand how a SIP works.

Suppose we start a monthly SIP of Rs. 10000 for 10 years. That is 120 installments.

A SIP as we all know averages the point of investment. Sometimes we invest when the NAV is high and sometimes low.  ‘Experts’ will tell you that this is better than timing the market.

What those experts fail to point out (for obvious reasons) is that a SIP does not minimize the risk of your entire investment. It only minimizes the risk associated with the next installment.

After one year,  the total amount invested is 12 times the next installment in a monthly SIP. The market value associated with 12 x 10000 = 120,000 is exposed to the full volatility of the stock market. There is no averaging here.

Therefore, After one year, your investment will constitute of a lump sum investment of 120000 + the next sip installment of 10000 After  5 years,

your investment will constitute of a lump sum investment of 600,000 + the next sip installment of 10000

Get the idea?

Suppose you have 600,000 to invest now, after 5 years, it will have the same level of risk as a Rs. 10000 monthly SIP started at the same time.

There is no benefit in splitting the 600,000 into say, six 100,000 monthly investments via SIP/STP. A couple of years later, the entire lump sum will be subject to market risks.

What is a STP? A STP or a systematic transfer plan is an instrument by which the  AMC locks your lump sum in their funds.  Like the SIP.

If your duration is long enough, there is no point in a STP. If your duration is short, why are you thinking of investing lump sums in equity funds?

If you wish to invest in debt funds, there is no need for a STP again, you can invest in one-shot.

If you are scared of investing in one-shot, let the money lie in your bank SB account for a weeks. No big deal. Invest once each week, and get rid of it within a few weeks. Beyond that, it is a waste of time.

Findings for Lump sum vs. STP

• Both lump sum and STP modes have similar probability of loss irrespective of duration
• The chance of STP doing better than lump sum mode is only 25-35% for all duration's.

STP is more a psychological tool.

Another school of thought believes in creating a lump sum and waiting for market dips instead of a SIP. The trouble with this approach is that, one may have to wait for months and months for an investment opportunity to show up. The bigger problem is how the opportunity is defined.

Call me for detailed discussion and information about schemes for achieving such future values.

Ritesh Sheth

Chartered Wealth manager CWM®

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