Should I Invest All 5 Lakhs in Mutual Funds Using STP?

Ans: Investing a lump sum amount like Rs. 5 lakh requires careful planning. Since you're considering starting with a liquid fund and then setting up an STP (Systematic Transfer Plan) into mutual funds, you're already on the right path. This method balances your risk by spreading out your investment over time, ensuring you don’t invest everything during a market peak. The key question now is, how much should you transfer through STP, and for how long?

Let's analyse this from all perspectives to ensure the optimal strategy for your investment.

Why STP is a Wise Approach

Risk Management: By using STP, you are shielding yourself from market volatility. A lump sum investment during a market peak could lead to losses in case of a downturn. The STP smoothens your entry into the market.

Disciplined Investment: STP is similar to SIP (Systematic Investment Plan) but for lump sum amounts. It brings discipline by automating the transfer.

Better Returns Over Time: STP ensures you invest regularly, capturing both market highs and lows. Over time, this strategy can generate better returns than investing everything in one go.

Deciding the Duration and Amount for STP

There isn’t a one-size-fits-all formula for deciding how much to transfer each month or for how long. However, a few thumb rules can help.

Standard Rule – 6 to 12 Months STP: Ideally, your STP should be spread over 6 to 12 months. This period balances out market fluctuations and avoids overexposure to short-term market volatility.

Amount – Divide into Equal Parts: Based on your chosen duration, divide the Rs. 5 lakh into equal monthly transfers. For example:

6 Months: Rs. 83,333 per month.
12 Months: Rs. 41,666 per month.
Advantages of a Longer STP

More Cushion Against Volatility: A 12-month STP gives more time for the market to settle in case of sharp fluctuations. This reduces the risk of investing too much during a volatile period.

Psychological Comfort: If you’re a conservative investor, a longer STP duration can ease anxiety by allowing a gradual investment in the market.

Disadvantages of Prolonged STP

Opportunity Cost: Stretching the STP too long may reduce returns during a strong bull market. The longer you stay in a liquid fund, the lesser the chances of participating in market rallies.
Smaller Daily STP – Is It Effective?

Some funds accept even Rs. 100 as the minimum STP amount. While it may seem tempting to set up daily STPs with such small amounts, there are pros and cons.

Pros of Daily STP:

Frequent transfers allow even better averaging.
Reduces risk from sudden short-term market spikes or dips.
Cons of Daily STP:

Frequent transfers can result in negligible returns if market movements are small.
Managing too many small transfers can be tedious, even though it's automated.
For most investors, a monthly STP is more practical than a daily one.

Assessing Your Risk Appetite

How much you transfer and how long your STP should last depends on your comfort with risk. Here’s how different scenarios might look for you:

Conservative Investor: If you're risk-averse, you may prefer a longer STP, say 12 months or more. This reduces the exposure to any sudden market volatility and provides more stability in returns.

Moderate Investor: A 6 to 9 months STP could be ideal. This allows you to balance risk while still participating in market movements in a timely manner.

Aggressive Investor: If you're willing to take on higher risk and expect strong market performance in the short term, a shorter STP, say 3 to 6 months, can allow you to invest more aggressively.

Should You Use the Entire Rs. 5 Lakh?

You don’t necessarily have to transfer the entire Rs. 5 lakh into equity. A balanced strategy would be to divide your funds into different asset classes.

Hybrid Approach: You could invest 60% to 70% through STP into equity mutual funds while keeping 30% to 40% in debt funds or safer instruments. This ensures a balance between growth potential and safety.
Choosing the Right Fund Categories

When setting up an STP, it's essential to transfer the funds into a well-balanced portfolio of mutual funds.

Large Cap Funds for Stability: A portion of the STP should be directed into large-cap funds for a stable core. These funds invest in large, established companies and are typically less volatile.

Mid-Cap or Flexi-Cap for Growth: These funds offer higher growth potential but with increased risk. Including mid-cap or flexi-cap funds helps balance risk and reward in your portfolio.

Small Cap Funds for Aggressive Growth: If you have a long investment horizon and can tolerate higher risk, small-cap funds can be included. However, they should form a smaller part of your STP to avoid overexposure to volatility.

Liquid Fund as the Starting Point

The liquid fund is a great choice to park your Rs. 5 lakh before starting the STP. Here’s why:

Safety of Principal: Liquid funds are low-risk, so your principal amount remains safe.

Higher Returns than Savings Accounts: Liquid funds generally provide better returns than regular savings accounts, making them a better short-term parking option.

High Liquidity: You can access your money easily without any lock-in period, which is ideal for transferring into an STP.

Time Your STP Wisely

Market timing is always challenging. However, the following points can guide you in planning your STP:

Monitor the Market: If the market is experiencing a sharp correction, you might want to speed up the STP to take advantage of lower prices.

Don’t Try to Time Perfectly: It’s impossible to predict the exact highs and lows. STP is designed to average out the price over time, so you don’t need to worry about finding the "perfect" time.

Avoid Common Pitfalls

While setting up the STP, keep the following points in mind to avoid mistakes:

Stay Disciplined: Don’t stop the STP prematurely, even if the market dips. Remember that you're averaging the cost over time.

Review Regularly: While you should remain consistent, it’s also important to review your STP and mutual funds every six months to ensure they align with your financial goals.

Avoid Small Daily STPs if Not Needed: Smaller STPs like Rs. 100 per day might not be necessary unless you specifically want to avoid market timing. Monthly or bi-monthly STPs are sufficient for most investors.

The Benefit of Working with a Certified Financial Planner

If you're unsure about the best STP duration or fund selection, working with a Certified Financial Planner (CFP) can provide clarity. A CFP can tailor the investment plan based on your unique financial goals, risk tolerance, and time horizon.

Guidance on Fund Selection: A CFP can help you select the right mix of funds to suit your risk profile.

STP Duration Optimisation: They can advise on the most suitable STP duration based on current market conditions and your financial situation.

Long-Term Goal Planning: A CFP can align your investment strategy with long-term financial goals like buying a flat or other significant expenses.

Finally

Investing Rs. 5 lakh through STP into mutual funds is a sound approach. Your focus should be on a balanced strategy that matches your risk profile and market outlook. By spreading the investment over time, you minimise the impact of volatility while capturing potential growth.

Use an STP duration of 6 to 12 months for optimal results.

Balance your investment across different fund categories for diversification.

Monitor your investment periodically to ensure alignment with your goals.

Work with a Certified Financial Planner to get personalised advice.

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

www.holisticinvestment.in

Instagram: https://www.instagram.com/holistic_investment_planners/