In a sinusoidal phase-modulating interferometer, sinusoidal modulation of the phase of the laser or the reference wave is necessary. However, modulation of the phase also involves an intensity modulation of the light, which leads to a measurement error if conventional signal processing is used. In addition, the error of modulation depth and the phase delay of demodulation also increase the measurement error. A novel signal processing, with ellipse fitting and a correction method, is proposed. Numerical simulation results and experimental results prove that the novel signal processing can compensate for the measurement error caused by the intensity modulation, the error of modulation depth, and the phase delay of demodulation.