The Hindu Business Line : Small investors, here's ELSS

Investments in an ELSS (equity linked savings scheme) fetch tax rebate under Section 88 of the Income-Tax Act. An ELSS fund operates much like a plain equity fund, except that your investment is locked in for three years. ELSS funds come with all the usual trappings of an equity fund, which includes choice between dividend and growth options, and systematic investment and withdrawal plans.

If you are deterred by the lock-in period, don't be. It is the lock-in period that actually makes the ELSS fund more attractive to the long-term investor, than its popular open-end cousin. Here's why:

Stable fund size: Because of the lock-in stipulation, ELSS funds only attract investors who are in for the long haul. For the fund manager, this means a stable asset base, where he needn't frenetically churn his portfolio to keep pace with fluctuating fund size.

The manager is also under less pressure to chase short-term performance by piggybacking on momentum stocks.

Retail focus: Corporate and "high net worth" investors who usually invest in open-end funds are not eligible for the tax rebate under Section 88. Therefore, they usually do not route their investments through ELSS funds. This means protection from the high liquidity and transaction costs and wealth-destroying practices such as dividend and bonus stripping, brought on by big ticket investors.

Small size: Thanks to their unpopularity with the big guys, ELSS funds have remained the pigmies of the fund management business. Most ELSS funds manage assets of less than Rs 100 crore, much less than the Rs.500-1000 crore managed by popular open end funds. This makes for a more manoeuvrable portfolio and an ability to switch nimbly between stocks, without impacting their prices significantly. Is it any surprise then, that ELSS funds have generated better returns than open-end diversified funds over the past three years? If you are convinced, take note of the following while investing in ELSS funds:

Invest in funds with a consistent five-year record: Quite a few ELSS funds have been around for five or more years, affording you a good opportunity to judge its performance during the ups and downs of the market (see the accompanying table for annualised returns of select funds).

Invest "systematically": Most ELSS funds set their minimum investment limit at Rs 500 or Rs 1,000, much lower than normal equity funds. While investing, use the systematic investment route, which allows you to dribble smal sums into the fund every month. This would make sure that you do not expose an unduly large portion of your savings to the risks arising from a badly timed investment. Choose the dividend option for better liquidity and tax efficiency.

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