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Journalism of Courage
A rising tide lifts all boats,said John F Kennedy. In India,rising interest rates have clearly buoyed fixed maturity plans,as evidenced by the avalanche of FMPs from mutual fund houses in the last two months. And with interest rates seen rising for a while,investors in these instruments seem poised to earn better returns.
At its mid-term monetary policy review Thursday,the Reserve Bank of India RBI raised its key policy rates,signalling a calibrated tightening of monetary policy. The repo rate the rate at which RBI lends to banks was increased by 25 basis points to 6 and the reverse repo rate the rate at which it absorbs funds from banks by 50 basis points to 5. The fifth consecutive rate hike this year indicates that banks would increase deposit rates in the coming months.
With the steady rise in interest rates,investors can look forward to various fixed maturity options like fixed deposits,debt funds,non-convertible debentures and FMPs from mutual funds. The basic objective of an FMP is to generate steady returns over a fixed period.
In fact,following cues from RBIs first quarter monetary policy on July 27,nearly 40 banks had raised interest rates on short-term and medium term deposits by as much as 150 basis points. Analysts feel that the weak liquidity in the banking system will hold short-term interest rates firm in the near term,supporting good returns from fixed maturity plans.
Pawan Agarwal,a certified financial planner says FMPs are a good option for investors who can put away their money for 12-15 months. As short-term rates are surely going to go up,investors should look at FMPs of those fund houses that invest in high-rated debt paper, he underlines.
In the last two years,FMPs have attracted many investors thanks to their higher yields and post-tax returns in comparison to fixed deposits. There are no entry loads on FMPs. Since schemes are listed on stock exchanges,no exit load is charged and units are held in dematerialised form,which can be traded on the exchange. Most common schemes offer maturities from 3-6 months to one year and this shorter time frame has helped attract bulk funds from corporates.
Most importantly,during times of market volatility,FMPs offer a safe investment avenue with tax benefits. FMP investors also have the option to pay tax on long-term capital gains at 10 without the indexation or 20 after applying indexation to the cost of acquisition. In case of short-term capital gains tax,it is the same as interest income from bank fixed deposits,where returns are added to the income of the investor and taxed as per the investors tax slab. So,it makes a lot of sense for investors in higher tax brackets as they can park their money for a limited period of time.
Returns offered by FMPs are entirely determined by the yields on the securities it has invested in. These yields mirror the borrowers credit risk,which means,the riskier a borrower,the higher the yield offered. Investment in any debt contains the inherent risk of the borrower delaying or defaulting their obligations to pay the interest or redeem the debt on the due date. This risk is known as credit risk. Now,with short-term yields on commercial paper in the range of 7-8,fund managers are hoping to generate good returns on fixed-term plans,as they can lock in their investments at the higher end of the yield curve.
