Navigating the world of mutual funds can be intimidating or confusing for new investors, especially when considering high-return equity funds amid market volatility. The Systematic Transfer Plan (STP) offers a simple solution by allowing investors to systematically move funds between different schemes within the same asset management company. This approach creates a balance between safety and growth potential, making it an attractive option for investors.
Definition of STP
STP stands for Systematic Transfer Plan (STP). It allows investors to shift a portion of their portfolio from one type of fund to another type of fund at regular intervals. STPs are usually set up between a low-yielding but safer investment scheme and a high-yielding and risky investment scheme or vice versa. This transfer of funds helps to protect the capital invested while also taking advantage of the higher-yielding schemes for potential wealth building.
Investors may set up an STP between two schemes within the same asset management company (AMC) for a minimum of 6 transfers in a duration of 12 months. An STP cannot be set up between the mutual fund investment schemes of two different asset management companies (AMCs). The amount to be transferred and the frequency is pre-determined by the investor, keeping in mind any restrictions of the selected schemes and taxation effects.
How STP Works?
A Systematic Transfer Plan (STP) transfers a pre-defined amount of funds from one scheme to another. An investor can initiate an STP by first making a lumpsum investment in a low-returns or safe investment scheme. A debt scheme that invests in liquid assets or in money market instruments is ideal as these are likely to have lower exit loads. The investor must then choose a high-return investment scheme to which the funds will be transferred. An equity scheme that gives good returns over a long period of time would be preferred as the investor is less likely to withdraw these funds in the immediate future.
Let's take an example to understand how an STP works: Assume you receive a bonus of ₹2 lakh from your company. You can invest the entire amount in a low-return debt scheme and set up an STP to transfer ₹10,000 per month to a high-returns equity scheme.
However, some investors may choose to start with a lumpsum investment in a high-yielding equity scheme and make periodic transfers to a safer debt scheme to secure their gains.
When setting up an STP, the investor must specify the transfer amount, the transfer date, and the duration for which the STP will be in effect.
Types of STPs
There are three types of STPs. The classification is made on the basis of the funds transferred periodically.
These STPs allow the investors to decide the transfer amount and initiate the transfer when they want. This gives the investor more flexibility to transfer the funds when market conditions are favourable to their investment plans. These STPs are preferred by those investors who actively track markets and their investments and want to take advantage of the market volatility.
In a Fixed Systematic Transfer Plan (STP) the transfer amount and the date of transfer are fixed beforehand when the STP is set up by the investor. This is more suitable for investors who do not track the markets closely.
Capital Appreciation Systematic Transfer Plan (STP) is utilised by investors that wish to only transfer the capital gains from the first scheme to the second scheme. This is generally done when investors want to lock in the gains from one scheme and invest it in another high-yielding scheme.
Benefits of STP
Now that we have understood the types of STPs, let us take a look at the benefits of STPs.
As the funds are transferred from one scheme to another over a long duration, the average cost of the units of the second scheme lowers over a period of time. The investor would get fewer units when the net asset value (NAV) is high and more units when NAV is lower. Thus, the per unit cost will gradually decrease.
Transferring a portion of the investment to high-yielding schemes will eventually lead to higher returns for the investor.
As funds are first parked in a safer, low-yielding scheme and then transferred to a risky yet high-yielding scheme or vice versa, the investors’ portfolio remains diversified. This protects the funds against the highly volatile nature of financial markets.
As the funds are transferred between two schemes of the same asset management company (AMC), transaction costs are lower as compared to external transfers.
When market volatility is high, investors can opt for an STP that periodically transfers a portion of their equity scheme holdings to a safer debt scheme in order to safeguard their capital.
Who Should Use STP?
Systematic Transfer Plans (STPs) are ideal for investors who have a limited capital for investing but still seek high returns that are obtainable in the stock market. Investors who wish to secure their capital gains by periodically moving their funds to a safer investment scheme may also opt for STPs. Furthermore, investors who wish to diversify their portfolio across various asset classes may also choose STPs.
Limitations of STP
Despite all the advantages listed above, there are also some limitations to STPs.
Investors may only choose funds from the same fund house or asset management company (AMC) to set up an STP.
The investors must ensure that they select funds that do have low exit loads and do not have lock-in periods.
A short-term capital gains tax may be levied on Systematic Transfer Plans (STPs) based on the holding period of the units on the date of redemption.
Conclusion
Systematic Transfer Plans (STPs) represent a valuable tool in an investor's arsenal, offering the benefits of rupee cost averaging, higher potential returns, portfolio diversification, and lower transaction costs. While STPs are also burdened with limitations such as restricted fund choices, exit loads, and taxation considerations, they remain particularly beneficial for investors with limited capital who seek stock market exposure or those looking to safeguard gains during market volatility. By understanding how STPs work and implementing them, investors can create a more balanced approach to capital appreciation that aligns with their financial goals and risk tolerance.
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