With the fear of short term interest rates and the high inflation lurking, the traditional fixed income investors are facing the brunt of it. March 2011 may not be a good financial month since majority of the FMPs have been wiped out, or fresh ones are no longer introduced. But this should not dampen your interests to invest. The possibility of acquiring debts like personal loans, car loans etc can be ruled out if you continue to invest prudently.
In such situations, how can you, as a fixed income investor benefit? Besides FMPs, here are some of the options that are made available to you:
Liquid and Liquid plus funds:
These funds may bring joy to investors since in the current liquidity tightness this can prove to be an advantage. Since these funds are short term debt instruments with a maturity period ranging from few days to less than a year, they hold a higher position to take full advantage of short term rises in the interest rate. If you or your fund manager have managed to invest in these short term funds before March, you are in a likely position to have gained some good returns. If you are looking forward towards investing in these short term instruments, opt for the dividend option.
Short term funds:
If you are an investor seeking to invest for a period of more than 6 months short term funds will just serve you right. In the eventuality of a reduced risk of inflation and better liquidity patterns, liquid funds may not provide you better returns as there are chances that the interest rates will fall. Investing in short term debt funds with the duration of 1-2 years can deliver promising returns of 8.5%-9% over the next 1 year. The reason why these funds are considered is because their yield to maturity of the fund minus the expense ratio gives you your returns which are generally quite good.
Fixed Maturity plans:
Although there is scarcity in the availability of such funds, there are chances of it being re-introduced as and when the interest rates move further up. But you need to invest in these funds only when you the time of maturity since these funds are difficult to be sold on the stock exchange before they reach their maturity. Also try opting for a FMP from a good fund house, where your returns can be monitored.
Long term funds:
Gilt funds offer you the edge in a rising inflation and interest rate scenario. You as an investor can benefit in the future in situations where long term interest rates are bound to decline. Because of the inverse relationship between the rate of returns and the interest rates, a fall in the interest rates will lead to a rise in the bond prices, resulting in capital appreciation.
If you cannot invest in these funds for at least 18 months, it is best advised to stay away from it. However, what you should be more concerned about is that if the interest rates move further upwards then in the short run you might have to encounter some marked-to-market losses.
Listed instruments:
These instruments can be easily traded if you hold a Demat account. The benefits are that you get to earn at regular intervals and also have the option of trading in bonds when the interest rates go up. At times you might have to face a capital loss; that is when you buy a bond above the face value and the issuer calls back the bonds. An inadequate trading volume on the stock exchange is another disadvantage as it makes pre-maturity exit difficult.
Fixed Deposits:
Bank fixed deposits are always considered a better option since, investing in company fixed deposits do not contribute for the risk that investors are exposed are to. Try opting for a medium term fixed deposit tenor, since you will be able to bank on good returns. If you sign up for a FD of a 1 year tenor, you can gain 9% interest-before tax. But the post tax returns are not as high as what you can gain from FMPs.