Mutual Funds Awareness 104: How an SIP prevents you from overspending.
Systematic Investment Plans (SIPs) are automated bank withdrawals that get invested in a mutual fund. Another example of an automated monthly withdrawal is an EMI on your loan. Both EMIs and SIPs look similar, but one drains away your money, and the other teaches you to sacrifice. Let us explore more on that today!
A loan helps you buy things in the present by selling your future. A loan entices you to buy wonderful things and inflate your status. A person from outside would really think that you are really rich, even though you know it’s financed by an agreement to repay the debt in the months and years to come.
An SIP helps you build a future by sacrificing the present. Yes, all investments are the result of sacrificing your present needs, desires, and urges. A person might really think you are poor, as you do not have anything tangible to show, but in reality, you may be en route to building assets.
A small level of debt is not bad — you might need a vehicle to commute and a place to sleep. Similarly, depriving yourselves of the basic needs to find more money to invest is equally bad. To enjoy the future, you should be able to live long and healthily. Honestly, there is no right or wrong way to do it — it is all about striking a perfect balance.
What I have observed by closely watching my clients is — debt actually gives them a target to work for. For those of us who are not self-driven, the idea of chasing a goal or sales target is not that welcoming. In those situations, a monthly EMI could motivate us to go that extra mile, sign up that extra client, or get that sales deal closed, as none of us would prefer to default on the loan.
Somehow, SIPs are not at the same level as the EMI. People prioritize EMIs over SIPs because they very well know the implications if they default. The feeling of seeing the loan recovery agents at our doorstep to collect the due is something we prefer to avoid.
A loan gives us a financial lesson on budgeting, but that alone would not cut it. To be really successful in the financial journey, you also need to learn discipline (self-restraint), and for that you need an SIP.
Just like budgeting, discipline is also a crucial lesson in personal finance. And to learn discipline, you need to start investing.
I will give an example that is easy to relate to. If you buy your kids a bar of chocolate (dairy milk) and ask them to consume only 1 square a day (one bite a day), it will teach them self-restraint/discipline. Either they willingly save something for tomorrow, or are overwhelmed and swallow the full bar today itself.
The same applies to your salary as well. When you decide to save a part of it for tomorrow, you learn self-restraint. You could have emptied your bank account on impulse buying, but when you decide to save something for tomorrow by sacrificing a bit of your today, you learn discipline.
EMIs will not teach you that, because it is a forced sacrifice. Whereas, SIP is the best tool to learn discipline as it is a voluntary sacrifice.
Most investors who start SIPs may not really understand that in the beginning, because they think SIP is just another financial instrument with a linear scale. Once they start seeing the power of compounding and realize the growth is not linear, but exponential, then they acquire this milestone of learning financial discipline.
It takes a minimum of 3 to 5 years to get this realization, and most of them would have quit by then. To stay on the SIP track, the first criterion is that you need to have a regular income, and these days having a stable job and a regular source of income is a tough ask.
This article is to enlighten you to continue on your path in the initial 5 years, even when you do not see light at the end of the tunnel. If you are a fearful investor, invest in fixed-income instruments rather than market-linked products, but stick with the SIPs.
Suppose you have a take-home income of Rs50000 a month. You should definitely plan to set aside Rs10000 to Rs15000 a month on SIPs. In case you have an existing debt, you may be able to contribute only a lower amount, but ensure that at least 10% to 15% of your income goes into an SIP.
This also means you have a lower amount to spend on stuff outside of essentials. Slowly but surely, you will change your consumption pattern to sacrifice a bit today to save for a better tomorrow. Only when you voluntarily cut down on the unwanted expenses can you learn discipline. This cannot be learned from “loans”, because that teaches you to spend more today on income you do not have.
PS: The amount of monthly SIP has no bearing. Even if you are saving Rs500 a week, it still can kickstart your financial discipline journey. You could do that by choosing to skip a non-essential dinner expense initially.
If you liked this article, consider sharing it with someone who could benefit from this.
Read my latest book — How to join the top 1% options traders club from Amazon