Mutual funds: What is STP and how does it help avoid market volatility? Explained

Mutual Funds: If you are planning to exit one mutual fund scheme and reinvest the proceeds in another, you can opt for a systematic transfer plan (STP).

This is an effective mechanism for investors who want to circumvent market volatility and make the most of rupee cost averaging. For instance, you want to invest ₹5 lakh in a mid-cap mutual fund, but you are not sure if this is the right time to enter the fund. So, what you plan – instead – is to lock your money in a debt mutual fund for the time being, and transfer ₹50,000 every month from this fund to the mid-cap fund via STP in 10 equal tranches.

Through this way, you can buy multiple units of the mid-cap fund (target fund) at different price points by redeeming the debt fund (source fund) on a regular basis, thus raising the chances of earning higher profit.

What is STP?

The systematic transfer plan, or STP, allows you to consistently move a fixed sum of money (instead of a lump sum) from one mutual fund to another.

It is a form of autopilot wherein you move your funds gradually from safer paths to high-yielding options.

What are the key advantages of STP?

There are multiple advantages of investing in mutual funds via STP:

I. Rupee cost averaging: As mentioned above, STP allows investors to enter the target fund at different price points, thus averaging out the high and low price points. This is a tried-and-tested formula to earn a higher profit at the time of redemption.

II. Tax benefit: When you divert funds from source funds to destination, the sale is not considered a redemption. So, investors are not liable to pay any capital gains tax on the sale of units of the source fund.

III. Investing discipline: When the funds are routed from one fund to another, you stick to an investing discipline and avoid the misuse of redemption money. This is an effective tool to avoid impulsive decisions at the eleventh hour.

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