The recent demonetisation drive by our government has
benefitted banks the most as SBI alone reported garnering deposits more than
Rs. 1.2 lakh crores in 10 days. It has been estimated that the combined banking
system will receive deposits of more than Rs. 4 lakh crore. By curbing the cash
withdrawal limit, the biggest impact will be on the consumption which is
expected to bring down inflation below 4% by December end. The chain effect of
all this is expected to lead RBI to reduce rates in the next monetary policy
meet scheduled in December 2016.
Banks have already started reducing interest rates on
deposits as they now have excess money which must be ultimately lent to
borrowers. Our country’s biggest bank – SBI has already reduced rates on fixed
deposits to less than 6% for tenures of 1 year and above. Other banks are
expected to follow and reduce their interest rates too. Where does this leave
the investors, who have been religiously investing in Bank Fixed deposits for
safety and fixed income purpose? Do fixed income investors have an alternative
now which can help them earn better than FDs and provide the safety net that
banks used to provide? The answer lies in Debt Mutual funds.
Debt mutual funds are schemes which invest predominantly in fixed
income instruments such as treasury bills, certificate of deposit, debentures,
corporate and government bonds, etc. Depending on the nature of the scheme the
investments are done accordingly.
Investors can invest in these debt schemes as per their time
horizon and after understanding the risk factors associated with it.
1.
Liquid
Funds: These funds ideally invest in very short term securities such as
treasury bills issued by RBI and Certificate of deposit which carry a fixed
return. These funds are ideal for investors who want to keep aside idle cash
rather than maintain in savings account. Also, if you have plans to do a major
purchase in next 1-2 months then too the funds can be maintained in these funds
as the funds get credited into the account the next day on redemption. Secondly
these funds are currently providing a return in the range of 7-8% annualised
which is much more than savings account.
2.
Ultra-short
term funds: These funds invest in securities of duration ranging from 3
months to 6 months and primarily invest in debentures, certificate of deposits
and commercial papers too. If you have a 3 to 6 month holding period, then
these funds are ideal with a return potential like liquid funds and higher at
times.
3.
Short
Term funds: If one has a time horizon of 1 to 2 years then these funds are
ideal as they invest in securities of slightly higher duration which can be
more than 1 year. These funds invest in debentures, bonds and even government
securities. These funds are ideal investments against 1-2 year Fixed deposits
as they return more than ultra-short term funds. These are much safer than most
other long term debt funds.
4.
Accrual
funds: These funds are also known as credit opportunities funds as these
funds primarily invest in debentures and bonds of corporates. The ideal tenure
for such funds should be 3 years and above as these funds invest in rated bonds
with the intention of earning a regular fixed income (accrual). While investing
in these funds care should be taken to check the ratings of the securities held
in the portfolio and only those holding AAA rating should be considered. Some
of the securities in the portfolio may face credit risk and hence investors with
utmost safety in mind should avoid such funds.
5.
Dynamic
Bond funds: To overcome the risk faced by Gilt funds, Dynamic bond funds
have been created. These funds dynamically manage the different bonds in the
portfolio as per market trends and situations. In the current situation, these
bonds are best suited to ride the trend and give better returns.
First time investors will do well to stick
with ultrashort and Short term debt funds and the level of safety is high and
returns volatility is minimum. For investing in accrual and dynamic bond funds,
one has to understand the pros and cons of
how these funds perform in changing interest rate scenarios and
therefore should be considered only by an informed investor.
Apart from good returns over Fixed deposits,
debt funds have a more favourable taxation structure. If the debt funds are
held for more than 3 years, then the gains on the funds are categorised as long
term capital gain and tax must be paid at 10% on the gains or 20% after
indexation. This is much lower than FDs as the entire income on deposits gets
clubbed with your income and you are taxed as per your slab. In times of need
you need not withdraw the entire amount like FDs but redeem what you need and
rest remains invested. This is a good time to diversify beyond FDs but first do
your due diligence and consult your financial advisor to select the right funds
as per your needs.