In Mahabharata, it is said that Abhimanyu learned the art of Chakravyuham from his mother Subhadra, when he was in her womb. This is when Arujna, his father, was explaining to her about the process.
The baby boy Abhimanyu from his mother’s womb understood till the part of entering the Chakravyuham. However, Arjuna could not continue the story and, Abhimanyu did not know how to get out of it.
That’s how Abhimanyu only knew how to pierce into a Chakravyuham but not the way out.
The result? Abhimanyu had to sacrifice his life.
A similar analogy can be applied to mutual funds.
Entering a mutual fund is very easy, but at the same time, one must have an exit strategy in place.
While everyone around will explain to you how to invest, where to invest, and when to invest. Not many would touch upon the topic of withdrawing money from your funds.
You should have a disinvestment plan, as it is an essential part of your investment.
Let’s understand how to draw out money from a mutual fund and what should your strategy be?
First, understand what is the goal of your investments?
It could be to accumulate capital, or to purchase an asset (car or house), or to go on a vacation. It can also be a target. That is, to accumulate 50% or 100% returns.
Thus, the moment your goal is accomplished you must redeem your investments. And try to execute your goal such as buying house, a luxury car or a foreign holiday
This exit strategy may not work for instruments where assured returns are generated, such as PPF or bank deposits. But it is very crucial for an individual investing in equity-oriented mutual funds.
Retail investors, particularly the young salaried class has opted for Systematic Investment Plan (SIP) to achieve their specific life goals such as education or marriage or vacation. Indian market sees more than Rs 3,000 crore per month inflow on an average via SIP.
While the SIP helps an investor shield himself from market volatility, he/she is not immune to market shock.
Let us understand this with an example.
Joe is 25-year. He starts investing for his house down payment due in five years’ time. Looking at a five years horizon, he chooses to invest Rs.5000 per month in an equity fund that offers 15% annualized returns.
The first SIP installment is debited on January 1, 2015, and Joe needs to withdraw the money by December 31, 2019.With a strong upward movement in the market, your money grows until December 2017 but starts to crash in January 2018.
As a disciplined investor, you continue your SIP with an aim to average the cost of investing.
Let’s say the market remains volatile in 2018, and your investments don’t grow until August 2018.
On the contrary, the value of Joe’s investments started to crash considerably in September and October 2018, thereby leaving you with a shortfall of his down payment by 10-15%.
What went wrong with his planning?
At first glance, you may feel nothing was wrong, as the equity market never comes with assured returns. But when you look closely, you understand that the planning lacked an exit strategy.
So, what can be done about this? How can you protect yourself from such volatility that leads to a shortfall in goals?
Similar to the way you invest money by way of SIP, there are two ways of withdrawing money, also known as the Systematic Withdrawal Plan (SWP) or Systematic Transfer Plan (STP).
Conceptually, the idea is straightforward. All you need to do is safeguard your wealth accumulation one year before the actual date when you may need the capital.
About 9-12 months before your due date when you need the money, you can start moving out a fixed amount from your fund to a stable debt fund.
This transfer or partial withdrawal needs to be done in monthly installments and not in one shot. You need to instruct your fund house on the same. Thus, you get to accumulate the entire exit value in a comparatively safer debt fund and redeem the same as per your requirement and investment goal.
This method also has a flip side.
It is a possibility that while you systematically extract money from equity to debt fund; you may lose on the value of the fund, if the market rises during this period.
So remember your goal. Why do you need this fund at the end of the year and your plan of utilisation. If your requirement is flexible and can be postponed for a year or two, you can wait before withdrawing the money systematically.
Otherwise, you can opt for a safe exit.
Alternatively, if you feel the time is right and you got the best returns, exit the entire corpus. Perhaps you can even consider to retain the SIP and exit the corpus so far accumulated.
To conclude, this exit plan is also suitable for retirees or anyone else who needs a regular income from investments.
So, the basic principle is – always move money to a less volatile investment instrument a year before it is to be used.
And make sure you think through the process of withdrawing money from mutual funds.
Disclaimer: The views expressed in this post are that of the author and not those of Groww