What a SIP averages, and what it does not

A monthly investment plan is the most widely held habit in Indian investing, and the thing it is most often credited with is not quite the thing it does.

What averaging actually does

A fixed amount buys more units when prices are low and fewer when they are high. Over many instalments, the average price you paid comes out below the average of the prices themselves. That is arithmetic, it is real, and it costs you nothing to obtain.

What it buys you is protection against one specific mistake: putting a large sum in on a single unlucky day. If you have a lump sum and no view on timing, spreading it removes the risk of choosing badly, at the cost of some expected return if markets rise while you are still spreading.

What it does not do

Averaging does not protect you from a market that falls and stays down. If prices are lower at the end of your investing life than at the start, you will have bought more units at falling prices and those units will still be worth less. Buying cheaply is only useful if there is eventually somebody paying more.

It also does not protect the end of the journey. In the last few years of a long plan, your accumulated corpus is large and your monthly instalment is small relative to it. A twenty percent fall in year nineteen costs you far more than one in year two, and no amount of averaging changes that. This is the argument for shifting risk down as a goal approaches, which is a different decision from starting the plan in the first place.

The date does not matter much

Whether the instalment leaves your account on the first or the twenty-eighth is one of the most asked and least important questions in the whole exercise. Over a long horizon the difference between the best and worst day of the month is small enough to be lost in the noise.

Pick the date just after your salary lands, so the money leaves before it becomes available for something else. That is the entire optimisation.

What actually decides the outcome

How much

The single largest factor, and the one most within your control. Raising the amount as income rises does more than any other adjustment.

For how long

Compounding does most of its work late. The years at the end are worth more than the years at the start, which is why stopping early is expensive in a way that starting late is not.

Whether you keep going

Instalments stopped during a fall are the most common way a plan underperforms the fund it invests in. The fall is when averaging is doing its work.