Can a Lump Sum Be Invested in Mutual Funds and Then Withdrawn Monthly?
Yes, you can invest a lump sum amount in mutual funds and withdraw a fixed monthly amount. This is known as a Systematic Withdrawal Plan (SWP). An SWP allows you to withdraw a fixed amount of money from your mutual fund investment at regular intervals, typically monthly or quarterly. This method provides a regular income stream from your investments.
How an SWP Works
Imagine you start with a lump sum investment of Rs. 12 lacs in a mutual fund and opt for an SWP scheme, deciding to withdraw Rs. 10,000 per month. Every month, the mutual fund will sell enough units to provide you with Rs. 10,000, adjusted for the current unit price. The remaining balance continues to stay invested, potentially growing over time through compounding, depending on the fund's performance.
Investment Risks and Considerations
While an SWP can be a convenient way to generate steady income, it is important to consider the risks involved, especially when starting with an equity mutual fund. If the market experiences a significant downturn, such as a 20% fall due to a calamity, the SWP might lead to a loss, even in your capital. Therefore, it is advisable to use balanced advantage funds or other suitable options for an SWP.
Recently, my cousin faced such a loss during the COVID period, highlighting the importance of careful planning. An ideal strategy would be the Bucket Strategy, specifically a 3-Bucket Strategy. This approach helps manage risk and ensures a steady income.
The Bucket Strategy
The Bucket Strategy involves dividing your investments into three different buckets based on their risk profiles and the time horizon for your withdrawals.
Bucket-1: This is the conservative or low-risk bucket. It should contain funds required for the next 4-5 years and can include low-risk debt funds, such as liquid funds, ultra-short debt funds, short-term debt funds, arbitrage funds, and more.
Bucket-2: This is the medium-risk bucket, containing funds required for the next 4 years (from the 6th to the 9th year). Suitable investments include medium-risk debt funds, corporate debt funds, PSU funds, hybrid funds, and more.
Bucket-3: This high-risk bucket includes equity mutual funds, which are necessary for investments that will only be needed after 9 years. Investments here can include index funds, active funds, flexi-cap funds, and sectoral funds, depending on your risk appetite.
Starting the SWP
It is recommended to start your SWP from Bucket-1, ensuring that your annual withdrawal rate (AWR) does not exceed 6-7% annually. Annual Withdrawal Rates (AWR) of 6% or less in mutual funds through an SWP are generally considered safe, as they allow your corpus to grow over the long term.
Experts such as Dhirendra Kumar of ValueResearch, Parimal Ade of Yadnya Investment Academy, and Christine Benz of Morningstar have advised on the safe AWR for many years. For retirees in the US, a safe AWR is often suggested as part of the 4% rule (also known as the 4% rule for retirees).
Monitoring and Strategy Adjustments
It is crucial to monitor the market and make adjustments every 1-2 years. If the equity market is high, consider shifting some money from Bucket-3 to Bucket-1 and Bucket-2 to protect your capital. This strategy aligns with the advice provided by Christine Benz, CEO of Morningstar, in her YouTube videos.
Stock Market Cycles and Monetary Factors
The stock market typically experiences cycles of 5 to 6 years, with a period of decline followed by recovery. During this time, the Reserve Bank of India (RBI) plays a crucial role in controlling monetary and fiscal stimuli through changes in the repo rate.
Therefore, maintaining a portion of your investment safe and the rest in well-performing investments is a prudent strategy. This approach provides a tension-free life without constantly switching mutual funds or underutilizing funds in hybrid funds.
Disclaimer: My views are personal, and you should consider seeking advice from a financial advisor before making any investment decisions.
Happy Investing!