STP makes sense when you want to transfer a large amount of money in a regular fashion without going through the lump-sum route.
Systematic Transfer Plan is a good way to invest in equity market. Similar to an SIP (systematic investment plan), STP invests systematically over a period in a particular fund in a fixed frequency. But unlike an SIP, money gets transferred from another scheme instead of a bank account.
Investors can put a lump sum amount in liquid funds or ultra-short term fund & transfer a fixed amount into another fund monthly or quarterly. This regular transfer of funds from one fund to another fund is called STP.
Anil Rego, Founder & CEO, Right Horizons said that parking money in a liquid fund and using a Systematic Transfer Plan to gradually invest in an equity fund is a good strategy. The idea behind this strategy is to earn a little extra from the investment in a liquid fund while doing rupee cost averaging with equity fund investment. However, this method attracts short-term capital gains tax as every STP installment is considered a redemption in the liquid fund if the amount is less than 3 years old. Even then, the returns earned from the liquid fund will be higher than savings bank account. “STP makes sense when you want to transfer a large amount of money in a regular fashion, without going the lump sum way. It is also a smart way to gradually shift money from high-risk assets classes to lower risk avenues,” he said.
Transfer through STP can happen via any type of fund. However, it is ideal to use from a debt fund like liquid or ultra-short term fund to equity fund. It does not guarantee that investor would not catch market peak; there is a possibility that market keeps rising for the entire duration of STP & then falls sharply.
“The period over which this transfer can be done can range from 3 months to many years basis the objective of the STP & amount to be invested. One of the main usages of STP is to avoid investing all the money at the peak of the market. It is a very useful method to invest a lump sum amount by spreading investment in equity over a period of time,” said Bhartendra Singh, Head of Product for Investment and Insurance Marketplace, Wishfin.
Singh also said that STP can be used whenever investor have a lump sum amount to invest & instead of investing all the amount in an equity fund at once, investor can choose this route and may avoid investing all the amount at once and average out the cost of buying the units in mutual funds and also may avoid the losses that may happen from sudden fall in market.
Let us understand the situation with an example
Suppose you have Rs 1 lakh in a bank account and you want to invest that money in equity mutual funds but looking at the market you thought that it is trading at close to peak. The PE ratio of the market is touching 24 and hence you think it might fall soon. Hence, instead of investing money in equity, you invested the same amount in the liquid fund or any short-term debt fund. Assuming that your augury became right and the market fell drastically it could be time to enter into equities again.
However, what if the market goes down further? In such a scenario you can take out Rs 1 lakh out of that short-term debt fund and invest in the equity oriented mutual fund gradually on monthly basis over a period time.You need to be very careful while following the proper asset allocation strategy because if weak sentiments prolong for some time, you may even lose on the opportunity cost because your money gets stuck with an investment which has gone down in value. However, giving your investment a longer time horizon in equities will give you rupee cost benefit. Hence, STP as a defense against the market fall can provide you even higher returns over a longer period of time. It is one of the best methods that help in mitigation of risk associated with your investments.