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Business News/ Money / Personal Finance/  Dhanteras 2023: Should you start investing in stocks through SIPs?

Dhanteras 2023: Should you start investing in stocks through SIPs?

Like mutual funds, you can invest in stocks through SIPs too. However, there is a catch – you must have an eye on market movements, their effects on the stocks you have chosen and your ability to either switch between stocks or pause your SIPs when no longer required.

Investing in stocks through SIPs can spell trouble if not done carefully.Premium
Investing in stocks through SIPs can spell trouble if not done carefully.

This November, you will find Indians gearing up to celebrate Dhanteras which falls on November 10. For many, this marks the beginning of a new year or a pledge to start investments afresh. Many investors are inclined to invest in stocks.

Should you invest in stocks in one go or does the systematic investment plan (SIP) method hold good for stock investments too? Undoubtedly, channelling your investments into stocks via the SIP route can effectively mitigate the risks associated with equity investments. The rationale behind this lies in SIPs enabling investors to acquire stocks at various price levels over a designated period, effectively smoothing out the overall investment cost. This strategy is commonly referred to as cost averaging and ranks among the most proficient techniques for risk reduction in the stock market.

Certainly, it’s important to acknowledge that there are no assurances that investing in quality stocks via SIPs will amass substantial wealth or provide a sustainable source of passive dividend income. Nevertheless, it remains a prudent investment strategy capable of facilitating the realisation of your financial objectives over an extended period.

To buy stocks in three or four installments or follow stock selection through the SIP route depends on myriad factors, which must first be assessed and then regarded accordingly.

Focus on the right stock selection

Occasionally, captivating numbers emphasize the outperformance of SIPs in ‘high-quality’ stocks, showcasing remarkable returns exceeding market averages. Adopting a balanced investment approach involving placing one’s funds into top-tier stocks for an extended duration helps. Such quality stocks often belong to firms boasting robust financial foundations, capable management teams, and a consistent history of profitability. These enterprises tend to endure market fluctuations more resiliently and tend to yield superior returns over extended investment horizons.

The approach you choose for your investments, whether it’s SIP or lump sum, has minimal impact on your long-term returns. What truly holds the utmost significance is your stock selection. When you invest in high-quality stocks, you increase your prospects of achieving favourable returns over an extended period, irrespective of whether you opt for SIPs or lump-sum investments.

Nonetheless, SIPs come with distinct advantages, particularly beneficial for novice investors. For instance, SIPs foster disciplined investing and mitigate the pitfalls of trying to time the market. Furthermore, they offer a more budget-friendly approach compared to lump sum investments, allowing you to invest smaller sums at regular intervals. If you’re just starting out as an investor, commencing with SIPs is advisable. It will facilitate your understanding of the stock market and reduce the likelihood of impulsive decisions. As you gain more experience and if you have a substantial sum to invest while maintaining confidence in your stock selections, you may then contemplate the option of lump sum investments.

Consider the following guidelines for identifying high-quality stocks:

  • Opt for companies boasting robust financials, competent management, and a history of profitability.
  • Favour companies with a competitive edge and a protective barrier around their business operations.
  • Select companies operating within burgeoning industries.
  • Ensure diversification by spreading your investments across various sectors and industries.

Deciding when to buy a stock

It’s essential to recognize that no stock remains an attractive investment at any price and indefinitely. This entails buying stocks when they are underpriced and divesting when they are overpriced. Several methods exist for pinpointing undervalued and overvalued stocks. One approach involves assessing the company’s valuation metrics, including the price-to-earnings ratio (P/E ratio) and the price-to-book ratio (P/B ratio). When these metrics fall below their historical averages or those of comparable companies, it could indicate that the stock is undervalued.

An alternative method for detecting undervalued stocks involves identifying companies with robust growth trends, yet their stock prices have not yet aligned with this growth. These companies might be undervalued due to the market’s incomplete recognition of their full potential.

Pinpointing overvalued stocks can be a more challenging endeavour. However, one method to identify them is by focusing on companies whose stock prices have experienced rapid escalation in a short timeframe. These stocks may be overvalued due to investors driving up prices based on expectations of future growth that may not materialize. After distinguishing undervalued and overvalued stocks, the key lies in exercising the discipline to acquire undervalued stocks and divest overvalued ones, ultimately capitalizing on profits.

Be aware of business changes

Engaging in direct equity investments necessitates ongoing diligence. This entails investors consistently conducting research on the companies within their portfolio, closely monitoring their financial performance, and staying informed about current market trends and economic conditions. Here are some essential areas that demand investors’ attention during their due diligence process:

Company financials: Thoroughly scrutinize the company’s financial statements to evaluate its financial well-being. This encompasses an examination of revenue, earnings, debt levels, and cash flow.

Management team: Conduct research on the company’s leadership to gauge their experience and track record. It is crucial to seek management teams that exhibit transparency and accountability.

Industry trends: Stay well-informed about the latest trends and developments within the industry. This knowledge is key to understanding the company’s competitive landscape and growth prospects.

Economic conditions: Continuously monitor the broader economic environment to assess its impact on the company’s operations. Factors such as interest rates, inflation, and unemployment should be considered.

Resorting to investing in stocks through SIPs can automate the investment process, potentially causing investors to overlook significant fundamental changes within the companies they hold. Consequently, investors may persist with their investments even when the core investment thesis has been unequivocally invalidated.

Lump sum vs SIP stock investments

Opting for the SIP approach can lead to a lack of precision in timing your stock entry points. Putting your money through SIPs involves investing a fixed amount at regular intervals, irrespective of market conditions. Consequently, you might find yourself purchasing stocks when they are overvalued, potentially diminishing your long-term returns.

Furthermore, if you choose SIPs over lump sum investments during market downturns, you could end up accumulating modest stock quantities, resulting in a significant missed opportunity. The SIP route involves investing smaller sums at regular intervals, which can impede the accumulation of substantial stock positions during market declines.

The optimal method for stock investment is contingent on your unique circumstances and risk tolerance. If you’re at ease with the risks associated with market timing, you might contemplate investing in stocks through lump sums. On the other hand, if you favour a more methodical and disciplined approach, SIPs can serve as an effective means to build a long-term stock investment portfolio.

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Published: 02 Nov 2023, 03:57 PM IST
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