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I wish to invest Rs 5 lakh in funds. Advise

Lump-sum investments in equity markets are not advisable. And in this situation it’s a clear "no". Read on for the reasons.

Print Edition: Nov 29, 2007

I wish to invest about Rs 5 lakh in an equity mutual fund as a one-time investment. My job is not permanent and the current contract expires in December. Please suggest good fund schemes and the right method of investing such a large amount.

— Vivek Kulkarni

Lump-sum investments in equity markets are not advisable. In your situation it’s a clear “no” for the following reasons: First, it is a huge amount (Rs 5 lakh). Second, the markets are close to an all-time high level. Finally, your job is not long term, which means you may need the money.

INVEST IN INSTALMENTS

You should invest Rs 5 lakh in a floating rate debt fund and go in for a systematic transfer plan (STP) that shifts a predefined amount into a good equity fund every month. That way, your entire capital is not at risk in case the stock prices undergo a short-term correction. See the MONEY TODAY-Value Research ranking of best mutual funds (issue dated 23 August 2007 available at www.moneytoday.in) to find out which equity fund you should invest in.

HOW MUCH TO TRANSFER

Under STP the investor has to specify the amount he wants to shift from one scheme to the other— in your case from the floating rate fund to an equity fund. How much you should transfer every month depends on your risk appetite and investment horizon.

If the investment is for the long term (over five years), you should shift the entire sum into equities in 18-24 months. To do this, you need to transfer Rs 25,000 from the floating rate fund to an equity fund every month (see table). If you are willing to take risks, raise the STP amount to Rs 40,000 a month. In this case the scheme from which funds are transferred can also be one with a tinge of equity—such as a monthly income plan.

Rs 5 lakh investment in a floating rate fund gets transferred to an equity fund at the following rate:
Transferred amount/monthPercentage of corpusMonths for total transfer
Rs 10,0002%65
Rs 15,0003%39
Rs 20,0004%28
Rs 25,0005%22
Rs 30,0006%18
Assuming that floating rate fund will grow by 10% annually

What happens if the markets crash just after an investor transfers his entire corpus into equities? For risk-averse investors who have a huge sum to invest but are wary of market volatility, a capital appreciation STP is the ideal solution.

Under this arrangement, the mutual fund transfers only that amount into an equity fund which the floating rate fund has earned during the month. So the principal amount is insulated from market volatility. In fact, since you are investing in monthly intervals, you might actually benefit from the volatility.

FEES AND TAXES

There are certain things to watch out for while going in for an STP. Mutual funds charge an exit load for early withdrawal but usually waive it in case of an STP. In case there is an exit load, start the STP after the stipulated period.

Also, you may have to pay tax on the capital gains made from the floating rate fund. The profits made from the switches within a year of investment will be clubbed with your income for the year and taxed at the applicable rate. The profits from switches made beyond a year will be taxed at 10%.

This is an interactive section for investors. Do you have a query regarding your investments? Write to us at letters.moneytoday@intoday.com and we will give a detailed answer.

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