SIP Vs Lumpsum (Part 1) – Which one would give better returns?​

Direct comparison between SIP and Lumpsum returns won’t be a fair thing to do because market is as unpredictable as life and hence any of them could end up giving better returns than the other.

Comparing SIP to Lumpsum is like trying to compare what will give you better health benefits –

• Good diet

  
  

OR

• Regular exercise

Both have different types of health benefits and require different types of behavioural discipline. Same is true for SIP and Lump Sum, both requiring different kinds of behavioural disciplines from investors and leading to different returns.

In this article I will just try to address the first part which is ‘Comparison of traits of SIP and Lumpsum investments’ and their ‘pros and cons’. In the follow up article next week, I will talk in detail about ‘How to choose between SIP and Lumpsum?’

First let’s understand SIP and Lumpsum investment styles.

What is SIP? – Full form of SIP is Systematic Investment Plan. It is similar to a Recurring Deposits i.e. investing a consistent sum of money into some financial asset (a stock, mutual fund, gold fund, REITs, etc) every month/ quarter. SIP is usually done in same asset.

What is Lumpsum investment? – Investing a large some in some financial asset as a one-off investment.

SIP is also called as Dollar Cost Averaging method as it helps buying an asset at an average price. Prices of financial assets keep going up and down, when you buy smaller quantities every month the units get bought at both low and high prices and hence making your per unit cost to average out.

Let’s understand with an example –

Ms. Lee invests $100 per month in XYZ security that’s trading on stock market at a price of $10 per share in January 2020. She invests in XYZ security for 5 months through a SIP.

Mr. Kim also invests in XYZ security, but he invests all his $500 at once in January 2020 when XYZ stock is at $10 per share.

Mr. Kim’s cost per unit is $10 while Ms. Lee’s average cost per unit becomes $9.29, almost 70 cents lower cost per unit. As she bought units both when they were high and low.

Now let’s understand the major differences in SIP and Lumpsum investments.

Now let’s look at the pros and cons of both SIP and Lumpsum.

SIP is mostly preferred as it is much easier than putting money in your savings account every month and trying to invest lump sum at best possible time to get highest returns. SIP too can prove to be inefficient if you have a large sum of windfall gain like a bonus, inheritance which you keep investing through SIP in tiny amounts. Then that sum will end up in giving you slow returns compared to Lumpsum.

However, deciding between SIP and Lumpsum is not that simple. In addition to understanding the pros and cons of SIP and Lumpsum and money availability, you also need to match it with your personality. The possibility of the investment style being most fulfilling for your financial needs depends more on your personality than the specific traits of the strategy. I will be discussing in the next article on how you can select the best investment style for yourself based on your personality.

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