Preference Shares: Meaning, Types and Advantages
This article helps shed light on all that preferred stock entails including its definition, types, advantages and disadvantages.
15 Jun, 2021
8 min read
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The term lump sum has become more relevant because of the rise of SIP investment or Systematic Investment Plans for mutual funds.
Before SIP came along and became popular, most investments were made as a lump sum but nobody ever referred to it as a lump sum because there was no other mode of investment out there.
You can compare this to how today people might say “Hey, I’m not yet vaccinated.” There is context to say this now – it would make little or no sense back in 2019. Nobody was vaccinated back then. But because people are getting vaccinated now, there is context to allow for a person to say he or she is not vaccinated.
When you invest as a lump sum, you put down the entire chunk of capital that you intend to invest in one go. The opposite method is to go for an SIP where you invest a fixed amount of capital at fixed regular intervals in a fixed mutual fund. Lump sum investment is seen in both traditional investment types like gold, real estate, fixed deposits and is also seen in mutual funds. SIP however, is exclusive to mutual funds.
When should you invest in a lump sum?
1. When you have a large chunk of capital in hand
Let’s say you have just received your annual bonus or an inheritance? Or perhaps one of your other investments has matured? It makes sense to put this money to work in a mutual fund right away. It does not make sense to lose out on potential earnings while your capital is tied up in your savings account. The idea of going the SIP way is to average out the cost of the mutual fund units, which fluctuate on a daily basis. However, even if you pay a potentially higher price for your units, there is a good chance that it will work out better than letting your capital earn a low amount of interest in your savings account.
2. When you are unlikely to ever put aside the monthly savings for an SIP
Perhaps you’re the kind of person who cannot commit to saving every month. You have managed to put aside some capital over the last few months but cannot make any such commitment. Or perhaps your earnings situation is uncertain. In such a case, it might make sense to opt for lump sum investment.
3. When you’re late to make your tax-saving investments
If it is already February and you haven’t yet made your 80C investments for the financial year that will end on the 31st of March, you might not have time in-hand for an SIP (though some mutual funds do allow for weekly SIP). In such a case you can opt for your tax-saving mutual funds via lump sum investment. These tax-saving mutual funds are known as Equity Linked Saving Schemes – they lock-in your capital for 3 years and give you up to Rs 150,000 tax benefit under section 80C of the Income Tax Act. You may usually invest as either SIP or lump sum, but if you’re late to invest, you should go with lump sum investment to make the tax deadline.
Key considerations when investing a lump sum
1. Getting the most bang for your buck
We mentioned earlier that the idea of going the SIP way is to average out the cost of the mutual fund units, which fluctuate on a daily basis. That is because, when you invest in a mutual fund, you buy units of the said mutual fund. So let’s say you have Rs 10,000 to invest. You will receive how many ever units are possible within that amount. Let’s say the price of XYZ’s mutual fund’s units is Rs 50; you will get 200 units with your Rs 10,000 investment capital. However, unit prices vary on a daily basis and your earnings are determined by the price difference between when versus when you redeem or sell your units.
Clearly, you’re looking to maintain as big a difference as possible and therefore buying at as low a rate as possible is imperative. Investors try to average out their buy in by using the SIP method. When you go with lump sum, you lose out on that averaging potential. However, you can combat this in two ways
I By doing a little homework on the historical pricing of the units and buying when the market is down.
II By putting your capital in a Liquid fund that is typically less volatile and then having a Systematic Transfer Plan enable your buy-in to a mutual fund with a higher risk-reward ratio.
2. Uncertainty
In the current context, before tying up all your funds it makes sense to be sure that you have kept aside sufficient capital for your daily expenses and lifestyle upkeep. You do not want to have to redeem your investment at an inopportune moment because that could potentially mean losses (if you happen to need to withdraw your capital at a time when the market is low). Risk in mutual funds typically plateaus out in the long term and therefore, your investment horizon too, needs to be long term. Additionally, some types of mutual funds also come with lock-in periods.
Whether you choose to go with lump sum investment or SIP investment, remember to be careful with researching the fund house, the stocks that the mutual fund invests in and to check whether your risk appetite and the fund house’s risk profile match one another’s. Mutual funds may be low risk or high risk, but being stock market linked, there will always be some degree of risk. However, their popularity comes from their risk-reward benefit. Chosen right, mutual funds have the ability to deliver sizable earnings.
Always remember, anyone can invest irrespective of age, gender or occupation. Start your investment journey with Angel Broking – not only do you get an easy investment platform, but also tons of investor education literature like this post that you’re reading right now. Happy investing!
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