While on the one hand, equity investors are enjoying the ride on a raging bull, there is another class of investors that is worried. We are not referring to the bears in the equity markets but to the segment of risk-averse investors in the market, primarily the pensioners. These investors typically comprise those who have been subscribing to fixed deposits (FD) and fixed maturity plans (FMP).
RBI is scheduled for credit policy review on October 31. There is speculation that the rates will move down post the rate cut by RBI at the end of the month. There are signals from commercial banks that support this speculation.
Many of the commercial banks have been reducing their home loan rates for new customers over the last month. But most of the banks have already lowered their one-year and more FD rates from 10.5% and 11% to 9%.
If you have received a communication from your bank talking about a rate of interest of 9.5% for tenure of around 1 year, rest assured that this might be the last opportunity in the near-term to park your funds for attractive reward.
Some of you must have come across this issue as you hear people talk of the possibility of a rate cut and their explanations as to why the rates must go down. Though equity investors may presumably benefit from the rate cut, you may be wondering where you would get the opportunity to make your buck with minimal risk.
Income funds and gilt funds
With the fall in rate of interest there are some destinations that may offer to replenish the returns that you have lost in your FDs and FMPs. You may consider income funds that invest in good quality papers. Here, good quality papers mean fixed income instrument issued by highly rated companies.
On the other hand, there are gilt funds that invest in the government securities. Investors should note that though investment in government securities is not subject to credit risk, it is exposed to interest rate risk. Interest rate sensitivity amounts to interest rate risk. Simply put, it means that when the rate of interest goes down the prices of the government securities go up and vice versa.
This interest rate risk, however, works in favour of gilt funds. As the rate of interest is slated to go down, the gilt funds having long dated papers are the obvious beneficiaries. However, a word of caution: there may be volatility in the returns in the short term. But if you are willing to hold for at least two years, then you can expect double-digit returns on your investments.
Income funds and gilt funds can provide you with a cushion at a moment when the rate of return on your FD and FMP is showing a downward trend. However, you must admit that something more than stability in returns is required to fight the inflation. You have two options to boost your portfolio returns.
MIP
There are some monthly income plans (MIP) floated by mutual funds available in the market. These plans primarily invest in good quality debt and a small component (10-25%) goes into equity.
If you are willing to take a long-term view, you can expect good returns, though in the short term there could be some rough patches.
There are some experts who are not in favour of investing in MIPs. The point of contention is the pressure on the fund manager to perform. The pressure to perform on a monthly basis may impact the performance of the MIP and sometimes make the fund manager to deviate to high-risk investments, sacrificing good quality long-term investment.
Portfolio mix
If you were to buy the arguments of critics of MIPs, you may consider a portfolio mix of debt and equity. In that case, you should invest up to 90% of your portfolio with good quality fixed income instruments and the rest with equity. The small equity component, if invested with a long-term view of five years, can fetch you good risk adjusted returns. In equity you may consider mutual fund schemes that are there for more than five years and invest in top 100 scrips by market capitalisation or only bluechip counters. Index funds are good candidates to consider.
In the debt component you may consider parking your funds in postal MIP and traditional bank and company deposits. Depending on the risk taking ability and horizon you can also consider above discussed opportunities. But in no circumstances get down to any un-rated or quick buck ‘double your money in six months’ type of schemes. You are risking your capital here.
The key point to note is that you should be dynamic enough to recognise the changing trend in the market and adjust your portfolio in accordance with your financial goals and available options in the arena of investment.
