The Hindu Business Line : Put some of the surplus into savings and debt

I am a 27 year old bachelor and around 40 per cent of my monthly take-home salary is invested in equities through mutual funds and direct investing. I have zero exposure to debt except Public Provident Fund investments under Sec 80-C. I have started SIPs beginning last June in Fidelity Equity Fund, Fidelity Special Situations Fund and DSP Merrill Lynch Opportunities Fund. Besides these, I have been investing Rs 70,000 a year in ELSS since 2006. I have chosen Sundaram BNP Paribas Taxsaver, Fidelity Tax Advantage and Birla Sunlife Tax Relief 96.

My broker / distributor now tells me I should go for Fixed Maturity Plans in a volatile market to get assured returns. How do I select a good FMP and what are the tax implications? He says I should continue with the SIPs from a 2-3 year perspective and it will yield good returns. Do you feel any churning is required in my portfolio of equity funds? What strategy should I follow in the future?

Mahesh

Though you are young and have the risk appetite to invest in equities, not all of your monthly savings should flow into shares and equity funds. Equity investments can witness choppy periods and should be typically held for financial goals that are 5-10 years away. This is why, in addition to stocks, you will need to direct a portion of your surplus into a savings bank account/liquid fund (to meet emergency expenses) and debt investments such as term deposits and fixed maturity plans.

Fixed Maturity Plans (FMP) invest in bonds and short-term borrowings of companies that match the tenure of the plan, usually between three months to one year plus. Climbing interest rates and tight liquidity have led to FMPs offering yields of 10-11 per cent now, up from about 8 per cent a year ago.

FMPs: As your distributor tells you, this is indeed a good time to invest in FMPs, especially of a one-year plus tenure. Given the expectation that interest rates will peak out and eventually taper down, FMPs present a good opportunity to lock into prevailing high interest rates.

Do note that FMPs do not guarantee returns, but only “indicate” them; actual returns may at times, be marginally lower than the one indicated. As they are market linked instruments which invest in corporate debt, FMPs do carry higher risk than bank term deposits. Therefore, take care to diversify your debt investments between two or more FMPs, while also holding bank term deposits for safety. While choosing between FMPs, tread with care on those offering high indicative yields. Apply the following filters:

Does the fund house have a good track record in debt funds?

What is the fund manager’s stance on its portfolio? An upfront statement that the fund will avoid binds from risky sectors, may reduce credit risk.

What is the fee structure, expense ratio and exit load for premature redemptions?

Taxation: As they are debt funds, dividends declared by FMPs are tax-free in your hands, but are subject to dividend distribution tax- payable by the fund. Returns on FMPs held for over a year are treated as long-term capital gains and are taxable at 10 per cent (without indexation benefit) and at 20 per cent (with indexation benefit). As interest received on fixed deposits is taxed at your marginal tax rate, FMPs may offer better post-tax returns for investors in the 20 per cent and 30 per cent tax brackets.

Equity funds: The three equity funds in which you now invest — Fidelity Equity, Fidelity Special Situations and DSPML Opportunities — are reasonable choices. However, we would advise keeping your investments in ELSS funds to the exact sum required for tax purposes and investing the balance in open-end diversified funds.

The majority of ELS funds have underperformed their diversified peers in the choppy market of the past year and relatively high mid-cap allocations in these funds may also make them quite vulnerable to market volatility over the next one year. In the interests of maintaining a healthy allocation to large cap stocks and a good balance between houses, Sundaram Select Focus, HSBC Equity and Templeton India Equity Income would also be good additions to your equity portfolio.

Do continue with your SIPs. Investments made now will help you average the cost of investments made at much higher stock market levels. What is more, investing in equity funds now, when stock prices are low, increases your chances of earning a good return from equities over a 5-year time-frame.

AARATI KRISHNAN

More Stories on : Mutual Funds | Mutual Funds

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page