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What should you consider when you are investing lump sum in MFs
07 Sep 2023

If you have already done your financial planning then your financial advisor must have surely told you about the merits of a systematic investment plan (SIP). The SIP enables to invest money in a staggered manner so that you do not have to worry about timing the market. Also over a longer period of time the volatility in the stock will work in your favour if you are into SIPs. That is called rupee cost averaging where you end up buying more units when the NAV is low thus reducing your cost of holding units.


Let us suppose that you got a share of a piece of land sold in your ancestral village and you have just received Rs.10 lakhs. You want to use these funds to productively invest to secure your future. There are some questions in your mind. How good an idea is investing lump sum in mutual funds? Can I investment lump sum in mutual funds or should I stagger over a period of time through SIPs? What are the best mutual fund for lump sum investment India and whether I should choose equity funds or debt funds or liquid funds? Here are 5 key factors that you need to consider when you plan to invest lump-sum in mutual funds..


You need to worry about the timing of the market

Like it or not, when you invest lump sum in mutual funds you need to obviously worry about your timing in the market. When you invest a lump sum in mutual funds, you need to be aware of the fact that your returns will depend on the market timing. You can use a mutual fund calculator to estimate the impact of market timing on your returns, and to make sure that you are comfortable with the level of risk. For example, if you are investing in the market during volatile times then it is very likely that you may invest and then find the portfolio value down by another 10%. That can be quite disconcerting, especially when there is a large corpus involved and you see your portfolio value depreciation 10% in a few days time. The trick is to use market P/E Ratios and Market Dividend Yield ratios to get a hang of market valuations. For example it is much safer to invest lump-sum in equity funds when the P/E of the Nifty is 12-14 than to invest lump-sum when the P/E of the Nifty is 22-24. At lower P/E levels the margin of safety is much higher. You are better off investing when the dividend yield of the index is above 1.75% compared to investing when the dividend yield is below 1%. Market level valuations matter a lot in lump-sum decisions.


Can you invest in a money market plan and wait for the right level

The second option is to invest in a debt fund or park the money in a savings account so that you wait to get better valuations. It is better buying lump sum when the P/E and P/BV are below historical averages than buying when they are above the historical averages. Again keeping your money in a savings account is not a very good idea as you earn only 4% returns per annum. A better idea would be to park the funds in a money market fund that can earn over 6% on an annualized basis. That is better use of idle money. You can also park in debt funds provided you are convinced that inflation and bond yields are headed down rather than up. After all, bond prices are negative related to bond yields and debt funds are generally underperformers in times of rising rates and rising bond yields.


Can you do an STP into equities?

An easier solution to the first two questions is to create a systematic transfer plan (STP). What a STP does is to invest the lump sum in a money market fund and sweep a fixed amount each month into an equity fund. In the process your idle money earns a higher rate of return and your equity investment becomes a SIP instead of a lump-sum investment. When you know that catching market bottoms are impossible and fruitless, why waste time and lose sleep over it. As well allow your STP to convert lump-sum into SIP in auto mode.


How soon will you require liquidity for other needs?

Where you put your lump sum funds will largely depend on how soon you need the funds for other purposes. For example, if you are going to use part of these funds for paying your margin money on the home loan that is an important commitment. You can’t take the risk of investing that money in equity funds and you will have to keep that portion in liquid form, especially if you require the funds in the next 2-3 years.


Are you prepared to wait for the long haul (5-7 years)?

That is the basic question you need to ask before even attempting to invest lump sum in an equity fund. Your fund may advertise positive returns in the last 1 year and in the last 3 years, but you need to prepare for the worst. For example, if you had invested in equity funds lump-sum at the peak of the equity bull market in 2007, it would have taken you at least 7-8 years to earn more than a savings bank account. Of course, you are less likely to get caught if you apply the valuation rule but as an equity fund investor you need to be prepared for the worst. Don’t even think about lump sum investing in mutual funds, especially equity funds, if you have a perspective of less than 7 years.


A SIP is a lot more scientific and simpler to make the best of the vagaries of the market. But if you were to invest lump-sum, use the above 5-point framework to judge for yourself!

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