Imagine you have a lump sum that you want to invest in the equity market for generating long-term returns. However, the market is on a bull run and you are genuinely worried than a crash could wipe out all or a major portion of your corpus. What would you do?
Well, you can use systematic transfer plan (STP) to invest your lump sum in a disciplined and orderly manner while saving your corpus from the effect of a sudden downturn. Here’s how it works.
An STP offers a disciplined way to shift your invested funds from one mutual fund scheme to another. Simply put, you invest a lump sum in one fund and then periodically transfer a predefined amount, say monthly, to a target scheme within the same fund house. Typically, the transfer happens from a low risk fund, such as debt fund to a high risk fund, such as equity fund.
He says: “If the person invests the money as a lump sum, and then the equity market crashes or corrects shortly after, the deep erosion which he will see in the invested value will emotionally worry him. To prevent this, it is always better to make investments into equity in a staggered manner.”
“For instance, you may invest that lump sum of Rs. 50 lakh that you plan to invest in equity, into an arbitrage fund from which an STP can be set up into the equity index fund spread over 12-18 months. After 10 years, it won’t make any difference whether you invested as a lump sum or in a staggered manner over 12-18 months. However, this staggering is important for managing the emotional aspect,” he adds.
The reason why funds are initially put in an arbitrage funds is because they are considered to be a low-risk investment destination. Arbitrage funds are mutual funds that primarily buy stocks at a lower price from one stock exchange and sell them at a higher price in a different exchange.
Better Returns: The main benefit is that money invested in the source scheme of the STP, i.e, in the above case an arbitrage fund, or typically any debt fund, generates returns until it’s transferred to an equity fund. Debt funds or arbitrage funds generally yield higher returns than a savings bank account, thus promising relatively better performance if you take the STP route.
Rupee Cost Averaging: By purchasing fewer units at a higher net asset value (NAV) and more units at a lower NAV, STP evens out the investment cost. For instance, if the target fund’s (equity fund) NAV is Rs. 12 in the first month, Rs. 10 in the second, and Rs. 7 in the third, your STP will average at Rs. 9. In contrast, an upfront lump sum investment in the first month would have cost you Rs. 12.
Flex STP: Several fund houses now offer flex STPs where you can fluctuate the amount invested each month through STP, thus applying the principle of ‘buy low sell high’. Simply put, this strategy enables you to invest more when the markets are down and less when they are high, rather than committing all your money to the market when it is at a peak.
Reducing Risk: STPs can also help you to move your corpus from riskier asset classes to safer ones. For instance, you can use STP to transition your investment from equity to debt as you near your retirement.
In a nutshell, STPs provide a strategic way to invest lump sum amounts while mitigating risk and managing emotions. By choosing this route, you can navigate market fluctuations and make your investments work smarter for you.
