Once you’ve decided that saving and investing are necessary, the next obvious step is determining where and how much to invest. Establishing your financial objectives and ranking them in order of importance is a must. It should be the first step before determining where to invest and how much to put in.
Your financial goals in order of priority can be like:
- Corpus Building for Emergencies
- Retirement Plan
- Child’s Future Education
- Buying a House, Car or Jewellery, etc.
Let’s start with saving for an emergency fund. It should be the primary priority, even before you begin investing. This could even be the whole amount needed to cover monthly costs for the next 4-6 months in case of a job loss or medical expenses. After the emergency fund has been established, additional investments should be made to satisfy other financial aspects. Ideally, SIPs should be connected to specific financial objectives.
Also, remember that even though a long-term SIP in an equity fund works, it does not assure that it will meet your long-term financial goals.
If you invest the appropriate SIP sum for your financial goals, long-term SIPs will work for you.
Example of setting the right amount of SIP
Piyush wishes to invest in stock mutual funds through SIPs for building his retirement home after 15 years from now. Currently, the cost of his retirement home is somewhere around Rs 50 Lakhs.
So we have information on the current cost of the goal amount and the number of years remaining to reach his goal. Now let’s apply the average annual inflation of, for example, 7.5% over 15 years. Therefore, now the goal amount with the addition of the inflation amount would be Rs 1.48 Crores! Therefore, Piyush will now need to invest to achieve Rs 1.48 Crores and not our assumed Rs 50 lakhs.
So how do we figure the right SIP amount for Piyush to invest in? For this, we need to analyze the assumed rate of return from his SIP investments. As he is investing in stock mutual funds, let’s assume a 12% return rate over the 15 years, annually. So Piyush needs to invest Rs 29,500 per month in stock mutual funds to reach the goal of Rs 1.48 Crores. Hence, the appropriate monthly SIP amount to attain the Rs 1.48 Crores objective of his dream home is Rs 29,500.
Now say he hadn’t considered the inflation-adjusted goal amount. For him, his SIP amount would have been merely Rs 12,000 instead. This example explains that investing in SIPs at random would not help you achieve your financial objectives and requires meticulous planning.
You already know that investing in mutual funds through a Systematic Investment Plan (SIP) will pay off in the long run. However, just because a SIP investment is successful in the long run, it does not guarantee to help you meet your long-term financial objectives. As explained in the example above, long-term SIP investment will be successful only if you invest the right amount, considering all factors, including the inflation rate. Random SIP investments may not prove beneficial in the long run and possibly could not meet your financial goals.
So, start investing in a SIP only after determining the “Right Investment Amount,” and make sure you keep investing throughout the aimed investment period, regardless of market movements. So, when the market is low, buy more units of stocks, and then buy fewer units when the demand for stocks is high.
Thinking of starting a SIP? Here’s how you can do it.