Worried about high valuations? Opt for STP route to invest

MUMBAI: When Mumbai-based Neha Deshmukh got her annual bonus last month, her wealth manager advised against investing the whole amount in equity funds at one go as she has been doing in the last few years. Instead, the advisor asked the 29-year old software professional to park the money in a short-term debt scheme and activate a system that will move smaller amounts to an equity scheme. This system — known as systematic transfer plan (STP) — will help Deshmukh spread the risk as the stock market trades at rich valuations after the recent run-up.

STP works like systematic investment plans (SIPs). Just that, in a STP, an investor typically puts in a lump sum amount into a liquid fund and then systematically transfers it into an equity fund. In an SIP, the instalments are transferred directly from the investor’s bank account to the fund. So, if you have Rs 1 lakh to invest, it first goes into a liquid fund. From the liquid fund, every week or month, a fixed sum (say Rs 4,000 per week or Rs 16,000 per month) is invested into an equity fund. The residual amount in the liquid fund continues to earn interest, while the investment into equities is staggered over a period of time.

"Systematic transfer plan staggers your investment, helps you tide over volatility and avoid market peaks," says Amol Joshi, founder, Plan Rupee, a Mumbai-based wealth manager.

Wealth managers are advising STPs because stock prices may be overpriced. The Sensex is trading at a trailing price-to-earnings (P/E) ratio of 19.9, which is inching close to the record levels. The Sensex P/E was 23 times in April last year. Higher P/E indicates higher valuations. The high valuations come at a time when the economy is yet to show signs of a recovery, earnings growth is still tepid and global events like US Fed, Brexit and Chinese economic slowdown loom over the market.

"Given that our equity valuation index indicates market valuations at reasonable levels and not cheap, we recommend investors to continue investing systematically. After two months of better performance, markets may remain volatile in the near term," said S Naren, executive director, ICICI Prudential Mutual Fund.

Naren prefers large-cap and flexi-cap funds that have higher large-cap allocation for systematic investments with a 2-3 year plus horizon.

The time frame for an STP could range from three or four months to many years and is entirely at the discretion of the investor. "You could spread your STP over half the time you took to earn it. For example, an annual bonus could be spread over six months. In case it is for equity allocation from retirement corpus, you could spread it over a market cycle of three and half years," said Dhirendra Kumar, chief executive officer, Value Research. However, he cautions investors like Deshmukh that STP is not a fool-proof method. For example, if markets keep rising for many years, as they did from 2003 to 2008, and then fall sharply, then even an STP cannot eliminate losses.