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What should be your mutual fund holding period?
12 Sep 2023

Equity mutual funds are long term investments and equity MF SIPs typically create wealth over the long term. That is still an extremely open-ended statement. What does long term mean? Does it mean 5 years, 10 years or 20 years? Are there triggers for you to exit your mutual fund holdings in a shorter time frame? Here are a few quick pointers..

For equity funds, long term wealth creation should be the driver..

There are some basic conditions for long term wealth creation through the mutual fund route. Your holding period in mutual funds should be long enough for the investments made by fund managers to play out the story. A good business model takes time to translate into stock market returns and we need to give the fund managers the requisite time to help them realize this price appreciation. Typically, well managed diversified equity funds have managed to outperform the index over a 5 years period but they have also outperformed other asset classes by a margin when a period of 10 years and above is considered. If you are actually looking at equity funds to help you achieve your long term goals then you at least need to give yourself a holding period of 8-10 years.

For debt funds, the outlook on rates should be your key driver for holding period..

Unlike equity funds, the debt funds do not really depend on long term holding. Since they are invested in debt instruments, these debt funds are more inclined towards safety, stability and liquidity rather than returns over the longer term. Debt funds are seldom used as a wealth creating mechanism and the key driver for them is the outlook on interest rates. When rates are expected to go down, it pays to extend your holding in debt funds and when rates are expected to go up then it pays to reduce your holding in debt funds.

Your holding period is determined by tax considerations..

This is a very important consideration when it comes to taking decisions on holding period for mutual funds. For example,equity funds and balanced funds attract short term capital gains tax if they are held for less than 1 year. At 15%, the STCG can vastly change the economics of your post tax returns on the equity fund. It pays to earn LTCG on equity funds as they are free of tax. The same logic applies to balanced funds too.However, the LTCG treatment is slightly different in case of debt and liquid funds. In this case, the definition of short term is up to 3 years. In case of debt funds, STCG is taxed at your peak tax rat while LTCG is taxed at 10% within dexation. That is why most debt funds are structured as dividend plans to earn tax-free dividends. As a debt fund investor you can combine your timing of purchase in such a way that you get the benefit of LTCG and of extra indexation.

Holding period will also be circumscribed by your goals..

It does not matter whether your holding is in equity funds or in debt funds. If the particular fund was invested in to meet a specific goal then the holding period of that fund should be limited to achieving that goal. In case you have bought a debt fund or liquid fund for a 3year time frame to meet the margin money for your mortgage loan, then that is what should be the holding period. Similarly if your 10 year equity fund SIP is maturing in time for your daughter’s college installment, then that should be the holding period. When your specific goal has been achieved and a specific fund has been earmarked for the same, then don’t change your plan. You must trigger the exit as otherwise it will have an impact on the discipline of your financial plan.

Finally,it should boil down to a cost benefit analysis..

Eventually, your mutual fund holding period has to also be determined by cost benefit analysis. The first question you need to ask yourself is that if your redeem your fund today then do you have alternate options to park the money in instruments that are similar or better? Secondly,many investors have the habit of switching around their holdings. Remember,switching around has a cost in the form of entry costs that you will have to pay each time you move to a new fund. That is best avoided unless you believe that the long term benefits of the switch are going to be huge. Thirdly, there is something called an exit load that will work against you when you trigger your MF exit early. An exit load is a levy on early exit of an investment in mutual funds and can either be 1 year or even 3 years. Normally, the exit load varies between 1% and 3% and can again alter the economics of your mutual fund investment. Lastly, mutual funds also attract securities transaction tax (STT)at the time of redemption to the tune of 0.125%. When your redemption amount is large or the returns earned are low, then this STT can make a substantial difference to your effective returns.


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