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STP in index funds via liquid funds is a good start
Published On , 21 Feb 2018 By TOI
Often investors, especially those who are new to investing and the ones that are less experienced, can not decide which funds to start with while the embark on their investing journey. At the start it is always better that they get a good and experienced investment advisor or a financial planner to hold their hands, but if they decide to go alone, they could also look at investing in those funds which are either the low-risk ones or try to mitigate the impact of volatility in the long run as well as the short run.
Fund industry professionals say one of the approaches is to invest in a Liquid Fund at first, which is a low-risk product. Then the next step is to set up a systematic transfer plan (STP) from that Liquid Fund to invest in an index fund. That was on one hand the investor would mitigate the impact of a sudden fall in the market in his/her portfolio. On the other hand, he/she will also be able to take out the risks related to fund manager in his/her investment scheme, since index funds, unlike actively managed funds, carry only the marketrelated risks. And if the investor remains invested for the long run, he/she could also mitigate the market risks to a large extent since theoretically several long years passive funds outperform the market.
John Bogle, one of the early as well as a very strong votary of passive investing had given investors an eight-fold path to investing to create wealth in the long run.
According to Bogle, over the long run, the market will eventually outperform the active fund managers and hence those investors who are in passive funds, will also be rewarded.
Fund industry veterans put in some caveats for investors in passive funds. For one, those investors should have high level of faith in the market that in the long run, short term gyrations will be neutralised and investors will be rewarded amply. In other words, there could be days when the index that your passive fund follows will see a huge dip. Since your passive fund is benchmarked to that index, the fund’s net asset value (NAV) will also witness an equal amount of fall. In such situations you should have the stomach to withstand the slide and not cash out.
The other thing to take note of is the tracking error. Lower the tracking error better is the ability of the fund manager to manage these funds.
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