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Investors would have noticed that returns on fixed
maturity plans (FMPs) aren’t what they used to be. Gone are the days when
you could expect double-digit returns on FMPs (we are talking of the
period around March 2007); presently FMPs yield a return of around 8%.
It’s the same story with fixed deposits (FDs) as well, with banks revising
their deposit rates downwards. This has got risk-averse investors very
worried and they are forced to re-evaluate their options.
No doubt, investors who have already invested in higher
yielding FMPs and FDs are sitting happy. At Personalfn we have been
advising clients since February 2007 (when FMP yields began peaking) to
invest in FMPs mainly for two reasons – higher yields and superior
tax-adjusted returns.
But that party seems to be getting over. FMP yields are
now hovering around 8% and the table below shows the difference it has
made to returns. MP yields take a hit
| | Yield | Post Tax Return |
| 366-day FMP (March
2007) |
10.25% |
9.19% |
| 366-day FMP (July
2007) |
8.00% |
7.18% |
|
(We have assumed that the investor has opted for the growth
option. Growth option has been taxed @10.30% which includes
surcharge and education cess.) |
Post-tax return for investors who had invested in FMPs
in February-March 2007 is 9.19%. At present, investors who are considering
investing in FMPs have to deal with considerably lower yields, which put
their post-tax return at 7.18%. In a matter 4-5 months yields have slumped
by one-fifth.
FD investors are no better off. Fortunately for them,
rates on bank FDs do not fall as abruptly as yields on FMPs. But there are
no two ways about the fact that FD rates are set to decline.
What investors must do
Risk-averse investors must now look for investment options that can give
them that extra return, a role that was until now played by FMPs and FDs.
1. Within the debt spectrum one way to make the best of
falling rates is to invest in long-term debt funds. As rates fall, prices
of bonds and government securities (gsecs/gilts) firm up, since there is
an inverse relationship between bond prices and bond yields. Rise in bond/gsec
prices pushes bond fund net asset values (NAVs) higher.
One investment option, within long-term debt funds,
that merits a look-in is the long-term government securities (gsec) fund.
As is evident from the name, these funds invest primarily in gsecs.
Because of the higher liquidity and the buy/sell spread, gsecs are usually
more sensitive to changes in interest rates. When rates fall, gsecs are
the first to reflect this through higher prices, which in turn gets
reflected in higher NAVs.
2. Investors who can take on a little risk can consider
investing in monthly income plans (MIPs) that have moderate equity
allocations. MIPs are hybrid funds that invest predominantly in debt
combined with smaller equity allocations. The debt-equity allocation is
predetermined; most MIPs usually invest 10%-25% of assets in equities with
debt investments accounting for the balance. The objective is to aim for
stability through a predominantly debt portfolio without sacrificing
growth, which is why equities are in the portfolio.
While MIPs can be volatile in the short-term, over
18-24 months the volatility is considerably lower. Also investors must
note that although the name suggests otherwise, MIPs do not assure an
income (dividend). If investors are looking for dividends, then they are
better off opting for the quarterly dividend option.
Primarily, these are the two key options for
conservative investors in a falling interest rate scenario. Investors can
also consider investing in both viz. long-term debt funds and MIPs based
on their risk appetite and asset allocation. The important thing is that
investors are aware of the change in the interest rate scenario and gear
themselves to counter it. |
