Smart investment strategies for wealth creation : SIP, SWP, and STP

People need to learn the right ways of investing since the world economy has become unstable and people need to overcome this instability and create their own wealth. There are several types and approach of investment plans, among the popular ones are the Systematic Investment Plans (SIP), Systematic Transfer Plans (STP), and Systematic Withdrawal Plans (SWP). It is therefore helpful for investors to gain an understanding of the mechanics, advantages and disadvantages and tax implications of each approach.

A brief look at SWP, SIP and STP

What is SIP?

A SIP is an investment management technique where the individual invests a lump sum periodically at a fixed time for instance weekly, monthly or quarterly in mutual funds or ULIPs, stocks among others. Hence, this method fosters prudent saving that lets investors amass a large pooled fund in the long-run.

To take one primary concept, SIPs build on the idea of rupee cost averaging, where the investor pays a constant amount and consequently, when the price is low, more investments are made as against when it is high. The effect that individual prices are averaged and this will help to reduce the overall exposure of investors to market swings. Third, there is compounding at work here since generated returns are invested back into the investment, fueling growth capability.

What is SWP?

Systematic Withdrawal Plan/SWP is an investment plan mainly linked with a mutual fund that enables the investor to take out a fixed amount at fixed intervals of period. Known as ‘income investing’, this can prove highly beneficial for people enjoying their post working years or those desiring constant returns on their investment.

The process of SWP includes investing a certain amount of money in a mutual fund at once in the beginning. They could then proceed to select an SWP with also particulars touched on withdrawal’s amount and frequency. Since the units have to be bought back at the prevailing NAV, the investors get cash flow in the investment process while continuing in the anticipated growth of the rest of the units in the investment.

What is STP?

Systematic Transfer Plan (STP) is an investment tool which allows the investor to invest systematically from one mutual fund scheme to another. Often this means transferring money from a less risky scheme like a debt fund to a higher risk one – frequently, an equity fund and thus enabling the gradual exposure of the portfolio according to market conditions and investor tolerance for risk.

Investors choose two schemes: a source (debt) fund and a target (equity) fund Although these two funds are relatively new in the industry, they are easy to understand compared to other kinds of investment vehicles. They then define the amount and frequencies of the transfer which will be processed automatically. Such a systematic approach enables control of risk at the same time as tapping into potential equity markets.

Comparative Analysis: SIP vs SWP vs STP

To this effect, an understanding of the organisation's investment objectives and suitability will be important to the investment decision.

• SIP: Especially designed for the goal-oriented investments, SIPs can be perfect for investors who are planning for their retirement years, attempting to purchase a house, or saving for their children’s education and other such lifelong objectives. These all help in regular savings and also there is a possibility to earn more capital in the long run.
• SWP: As a personal investment for frequent income, SWPs are suitable for retirement age persons or people requiring an additional source of wealth. This method makes it possible to take out money reliably so that the withdrawal does not exhaust invested capital and still create a possibility of making more money.
• STP: Perfect for investors who would like to undertake moderate risks for moderate gains, STPs enable one to upgrade the investment portfolio from low risk to high risk gradually. It is suitable for someone intending to invest in equities but has fears concerning drastic changes in the market prices.

Risk Tolerance

• SIP: Typically tied to moderate to high risk tolerance, SIPs keep investors invested for long periods to offset market volatility which positions it well for investors comfortable with equity.
• SWP: In general implies lesser risk since contract emphasis is on divestment, rather than the active investment into various projects. Low risk takers have the option of SWPs and this can be practiced while coming from debt or balanced funds.
• STP: It is suitable for middle risk investors who are moving from less risky securities towards more risky equities hence providing a relatively well measured exposure to risk.

Income Generation

• SIP: SIP primarily provides a facility to accumulate wealth without providing regular income though once invested yields a high amount which can be used later for income generation.
• SWP: As a result of being tailor made to give constant income, SWPs allow investors to make fixed amount withdrawals, which makes them suitable for retired individuals.
• STP: Although STPs can help to have an income generating effect more indirectly than anything else, they are good at handling investments rather than creating cash flow.

Market Volatility Management

• SIP: Using rupee cost averaging, SIPs can negate the impact of market fluctuations and let the investor keep investing, come what may.
• SWP: Far less volatile as it refers to getting out of a position without going in with another and taking a chance on the market.
• STP: Assists in overall management of risk by employing orderly transfers which allow investment to move from relatively safe to relatively risky.

Tax Impact

Understanding the tax implications of each investment strategy is crucial:

• SIP: Investments in mutual funds through SIPs are subject to capital gains tax upon redemption. The ‘stakeholder’ is taxed at 10% for LTCG exceeding INR 1 lakh in a financial year and at 15% for STCG.
• SWP: Redemptions from SWPs are tax-optimal if the amount redeemed largely consists of the invested capital. If the investment has gone up, then it will be subject to capital gains tax norms of the country.
• STP: An STP within the same fund house does not lead to capital gains tax, as long as the amount invested stays in the same tax bracket. However, at the time of disposal of units existing in the target fund, capital gains tax will be charged depending on the period of holding the units.

Conclusion: Choosing the Right Strategy

In the real world, the decision to use SIP, SWP and STP basically depends on the investor’s objectives, his/her ability to absorb risk and time horizon. While passionate about it, SIPs again emerges as the leading strategy for long term wealth build up. On the other hand, if steady income is more important, there exists a very simple solution in SWPs. They put the investment at some risks but have equal opportunities of growing hence helping the investors.

All three investment techniques have their strengths and weak points from the tax viewpoint, and therefore, one should think on personal requirements and goals. In the most basic sense, knowledge empowers a person to make financially sound decisions that enable one to build his/her financial future thereby achieving company goals and visions.