SIP or lumpsum? How should you invest if you are sitting on idle cash

You have just sold land in your ancestral village and were paid Rs 15 lakh for it, a sizable sum and you are wondering whether you should invest it as a lump sum or opt for a Systematic Investment Plan ( SIP) for long-term growth of your money. Business Standard spoke with several financial experts to decode an investment strategy for someone sitting on idle cash. 

As per brokerage Motilal Oswal, when you invest lump sum in mutual funds you need to worry about your timing in the market. 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 depreciate 10 per cent in a few days. 

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%. 

Motilal instead thinks investors with a lump sum can opt for a Systematic Transfer Plan (STP). What you do in an STP is that the entire corpus is invested into a debt fund or a liquid fund and each month a fixed sum can be swept into an equity fund. "STPs benefit you in two ways. Firstly, the liquid fund helps you earn a higher return on idle funds while the STP into equities gives you the advantage of rupee cost averaging. This dual benefit is likely to be more visible when you are in volatile markets," said the brokerage.  

"We would suggest a combination of lumpsum and 6-month STP based on valuations to deploy idle cash into equities. This works well most of the time as it lets you average out the entry price over time and helps you minimize regret. If markets go down, you are happy that you didn’t invest the entire amount in one go. If markets continue to go up, you are happy that you at least got to participate partially as otherwise, you would have been waiting without investing.. Currently, as equity valuations are on the higher side, we suggest 20 per cent via lumpsum and the remaining 80 per cent via 6-month STP for equity investments," said Arun Kumar, VP and Head of Research, FundsIndia.

  For eg: If you have Rs 10 lakh to be invested in equities, you can deploy 20% i.e Rs 2 lakhs immediately into your chosen funds and the remaining 80% i.e Rs 80 lakhs via 6-month STP.

Year wise 6M STP Returns of Nifty 50 TRI (2000 to 2022)

Source: MFI, FundsIndia Research. How to read the table: Column 1 indicates the starting date of investment – from which you deployed the amount via 6 month STP. The Row named ‘Year’ indicates the time frame on investment – 1Y, 2Y, 3Y etc

Even asset management company White Oak Capital agrees that for those wary of market valuation, employing STP—placing funds in fixed-income mutual funds and gradually shifting to equity over 12-18 months—is a prudent strategy. Additionally, exploring asset allocation products such as balanced advantage funds and multi-asset allocation funds, capable of tactical and/or strategic allocation, is advisable.

"Presently, market valuations surpass the long-term average, marked by positive sentiments, a flourishing IPO market, and robust performance across all asset classes. However, historical patterns indicate that investing during such periods may not yield positive experiences over the short to medium term. Allocating a larger share to hybrid products is recommended due to the recent surge in the equity market. Aggressive lump sum investments during analogous periods in 2007, 2015, and 2017 failed to meet expectations. In times of elevated market valuations, low risk premiums may hinder higher returns for the associated risk over the short to medium term," said Chirag Patel, Co-Head Product Strategy, WhiteOak Capital AMC

Investment research firm Value Research believes that if an investor is risk averse and is sitting on idle cash, he should first put 50 per cent of his money in a fixed deposit. The rest should be invested in an equity or a balanced fund. 

"Systematically transfer it into the chosen scheme over six months at least. This would ensure that your investments do not catch any high or low phase of the market. Balanced funds is to provide capital growth via a mix of equity and debt: a blend of growth and safety. The unique proposition of spreading investments among two broad asset classes is hard to find in other types of funds. The higher equity allocation to the tune of 65 per cent gives these funds the opportunity for high growth, while the debt component provides a cushion when the equity component fails to perform," as per the firm. 

Robin Arya, smallcase manager & Founder, GoalFi thinks it is essential to ensure that you have an emergency fund set aside before considering these investment options. He explores both scenarios with examples:

Scenario 1: Lump-Sum Investment

Ideal for: An investor with a significant amount of idle cash, a good understanding of the market, and a higher risk tolerance.

Example: Arjun, an experienced investor, receives a year-end bonus of Rs 5,00,000 in January. He decides to invest this amount as a lump sum in a multi factor equity fund or an expertly curated basket of stocks/ETF. Arjun has already set aside his emergency fund and is comfortable with the market's current position, expecting steady growth. By investing a lump sum, Raj potentially positions himself to benefit from the market's upward movement throughout the year.

Why it's better for Arjun: 

With his market knowledge and by choosing a fund that leverages multi-factor investing, Arjun diversifies his risks while potentially maximizing returns. This approach is beneficial in a market expected to grow, as it capitalizes on different market factors.

Scenario 2: Systematic Investment Plan (SIP)

Ideal for: An investor seeking a disciplined approach to investing, less market risk, and who may not have a large sum available upfront.

Example: Neha, a professional who prefers a steady investment approach, chooses to invest Rs 20,000 monthly via a SIP in one of the equity mutual funds 

Why it's better for Neha: Neha's SIP allows her to benefit from rupee-cost averaging, reducing the risk of market volatility. This method aligns well with her preference for a steady, disciplined investment approach and fits her monthly budget. 

The study comparing the performance of a Systematic Investment Plan (SIP) and a Lump Sum investment applied to the NIFTY50 index from 2002 to 2023. Both investment strategies have been adjusted for an average annual inflation rate of 6%.

By the end of the period, both strategies appear to converge, with the Lump Sum investment slightly overtaking the SIP. This could indicate periods of strong market performance where the initial larger amount of the Lump Sum could have capitalized on compound growth more effectively. However, the SIP strategy shows resilience and steady growth, underscoring its potential as a strategy for long-term investment in volatile markets.

"The choice between lump-sum and SIP investments should consider personal financial goals and market conditions. For knowledgeable investors with lump-sum funds, investing in a multi-factor fund can offer diversified exposure to different market trends. However, for most investors, SIPs provide a disciplined, lower-risk approach," said Arya.