Am I financially ready to bear the cost of upbringing children….?

Well friends, most of the times it’s an emotional decision for a couple to start a family but rarely we take stock of our finances before we actually take a plunge. Now lets try and understand the quantum of money required to be saved and invested to meet financial goals associated with upbringing of children. Let’s do it with a case study.

Assuming a person gets an employment at the age of 23 years in Dec 2018 after finishing his graduation and plans to get married by the end of year 2021(26 years of age). Couple enjoys their married life and decides to have their first baby by year 2025( four years of marriage) and second baby by 2027(six years of marriage). Let’s see how much money they would require to save and invest on monthly basis to plan for the future requirements of their two children.

In the above example we have seen that a proper financial planning is required to be done and required amount of money needs to be invested in an appropriate financial instruments( I have assumed 7.5% annual returns in debt instruments to include bank FD, PPF etc and 12% annual returns in equity mutual funds over a longer period of time). Although the requirement of funds seems to be high but with proper planning and regular investments, these targets can easily be met.

Moreover financial planning will help us decide weather to have two children or settle for only one . At this stage, it may not be out of place to mention the importance of retirement planning. Just to give an example if this person is spending Rs 25000/- per month today, he would require approx Rs 3.06 lakhs per month at the age of 60 years with an average inflation of 7% per annum. Assuming his life span is 85 years, he has to have a corpus of approx Rs 8.17 crores by the time he retires at the age of 60 years to sustain upto 85 years of age( assuming 8% of annual returns and inflation of 7% post his retirement). And to accumulate the corpus of Rs 8.17 crores, he needs to invest Rs 11885/- per month over a period of next 37 years upto the age of 60.( assuming 12% annual returns on investments)

So financial plan will not only help us achieve our financial goals but may help us take important life decisions too.

Consolidate Investments through Comprehensive Financial planning

Most of us have been investing in different asset classes over a period of time, using different platforms, some manual, some online and now it’s becoming difficult to monitor all of these. To add to the irony, we have no clue why did we make these investments and what was our investment goal(s). We tend to invest just like that because we have surplus money and  lot of recommendations are floating around  in media(TV/print/social).

Most of the time we will find that these investments have some how been forced upon us by relationship managers/ wealth management teams from banks, insurance agents and people from various commercial websites. At times we ourselves go ahead and make investments just to oblige our Bankers or friends/known people.


  • All the investments are scattered and not available on a single platform
  • Difficult to keep track of all these investments and monitor their performance
  • In the name of diversification, investments in far too many mutual fund schemes
  • Investments done which are not in tune with our risk profile and do not contribute towards our short and long term financial goals

So what is the way out ? Answer lies in a  comprehensive financial planning. 

Comprehensive Financial Planning

A financial plan is a road map to help us define our financial life goals and provides an integrated and logical approach to achieve these goals(e.g children’s education, their marriage, foreign vacations  etc )

Comprehensive Financial Planning involves :

  • Detailed review and analysis of all the facets of our present financial situation. This  includes areas such as cash flow management, risk management, investment management, insurance planning and tax management.
  • Discussion, understanding and prioritization of short and long term financial goals.
  • The development of a plan including linking of all existing investments and additional financial products needed to take us from where we are today to where we need to be in future to meet our desired financial goals.

Advantages of having a Financial Plan

  • Optimizes surplus cash flow which can be utilized towards fresh investments in consonance with risk profile of an individual, towards meeting financial goals.
  • Evaluates, assess and consolidates all existing investments for their performance and link these with financial goals. Non performing assets can be liquidated.
  • It provides real time tracking of all investments on a single platform and updates the progress of achieving designated goals.
  • Ensures continuation with investments during market volatility and avoids unwanted redemption  to fulfill insignificant desire(s). 
  • Provides total peace of mind by reducing financial stress.

“ If you want to know your past, look into your present conditions. If you want to know your future, look into your present  actions ”

                                                                                  A Chinese Proverb

Classification and Investment Portfolio of Debt Mutual Funds

As we all understand debt mutual funds are ideal investment options for short term investments. Their risks are much lower than equity or equity oriented funds, they have the potential to generate superior returns compared to traditional fixed income products and they enjoy a significant tax advantage over bank savings and Fixed Deposits. But how many of us know that there are around 15 to 16 different categories of debt mutual funds with different investment strategies. Let’s have a look at them:

  • Debt Overnight Funds. Invest in only those securities which are having maturity of only one day. 
  • Debt Liquid Funds. Invest in securities having maturity of upto 91 days.
  • Debt Ultra Short Term Funds. Invest in debt and money market instruments(treasury bills, commercial papers etc) which are maturing between 3 to 6 months. I am deliberately not getting into technical term of Macaulay Duration.
  • Debt Low Duration Funds. Invest in debt and money market instruments which are maturing between  6 to 12 months.
  • Debt Money Market Funds. Invest in debt and money market instruments having maturity of upto one year.
  • Debt Short Term Funds. Invest in debt and money market instruments which are maturing between1 to 3 years.
  • Debt Medium Term Funds. Invest in debt and money market instruments which are maturing between 3 to 4 years.
  • Debt Medium to Long Term Funds. Invest in debt and money market instruments which are maturing between 4 to 7 years.
  • Debt Long Term Funds. Invest in debt and money market instruments which are maturing in more than 7 years.
  • Debt Dynamic Funds. Invest across the duration.
  • Debt Corporate Bond Funds. Invest minimum 80% of the total assets in highest rated corporate bonds.
  • Debt Credit Risk Fund. Invest minimum 65% of the total assets in corporate bonds, although in below highest rated instruments.
  • Debt Banking and PSU Funds. Minimum 80% of the total assets needs to be invested in debt instruments of Banks, PSU and Public Financial Institutions.
  • Debt Gilt Funds. Minimum 80% of the assets need to be invested in Government securities(G-sec) across all maturities.
  • Debt Floater Funds. Minimum 65% of the assets need to be invested in floating rate instruments.

Each of these debt mutual funds generate different return on Investments based on the prevailing interest cycle and anticipated movement of interest rate in future. One needs to choose an appropriate debt fund keeping in mind risk appetite and expected returns.

Happy Investing!!

Investment Opportunities Post Budget FY19-20

Interim Budget for FY19-20 was presented today in the parliament by the Finance Minister. During his budget speech, he has laid down the road map of economic activities for the country over the next 10 years or so. Important highlights of the speech affecting investments are as given below :

1. Indian GDP is poised to become $ 5 trillion from existing $ 2.5 trillion by 2024 and by 2032, it will touch $ 10 trillion. That means Indian businesses will grow four times in next 13 years.

2. To give a boost to Real estate sector, following major announcements have been made:

a. As per existing rules, income tax on notional rent is to be levied on second residential house even if the house is not rented out. That provision has been taken out, meaning thereby, we need NOT pay income tax on notional rent if the house is not rented out and can show both the residential houses as self occupied.

b. Earlier, to save income tax, Long term capital gains(LTCG) accrued by selling a house were being utilised in buying a residential house under section 54 of income tax act. Now, instead of one residential house, we can buy two residential houses with Long term capital gains with a condition of LTCG not exceeding 2 Crore. This exemption will be allowed only once in a life time.

3. In the light of the above, It is the right time to start allocating a substantial portion of investments towards equity mutual funds which are going to generate enormous wealth as Indian economy is poised to grow four times in next 13 years or so.
An opportunity to acquire a real estate asset under distress sales may be considered for investments. 

Happy Investing!!

Highlights of Interaction with Armed Forces Officers

During last two weeks or so, I had the privilege to visit and interact with Armed Forces Officers at Indian Institute of Foreign Trade(IIFT), New Delhi, Meerut, Pannagarh and Mumbai (Kalina) Military Garrisons. During the course of my presentation and subsequent interaction with Officers, I realized that the concept of Personal Financial Planning is not clear to most of us and we are not planning and channelizing our resources towards achieving our desired financial goals.

Important highlights of my interaction are as given below:

1. Contribution to DSOPF. Itstill remains the most preferred option for investments. Although some part of the investments must go towards DSOPF but investments in equity through equity mutual funds can not be ignored. Equity has been the largest wealth creator in the past. Investments in equity Mutual Fund through SIP will create enormous wealth  in the times to come as India is all set to double its GDP from existing 2.5 trillion dollars to almost 5 trillion dollars by 2025.

2. Goal Based Investments. Investments are being done in an adhoc manner without linking them with  future financial goals. Such investments have an inbuilt risk of getting redeemed prematurely at the slightest volatility in the stock market or to fulfill any insignificant desire. Under such conditions it is rarely feasible to achieve one’s financial goals. Investments based on financial goals is the only way out to meet your desired targets.

3. Investments not in line with Risk Profile.  Selection of an Asset class is directly related to an individual’s risk profile. An individual averse to risk should not allocate high proportion of investments into equity as he or she will not be able to handle the volatility in the market. I have observed that officers having low risk appetite and who invested in the equity mutual funds in last year or so are finding it very difficult to see their capital being eroded. For them , investments in debt mutual funds would have been a better option. So investments based on risk profile is very important factor.

4. Loan, a Biggest Culprit.  A large number of officers tend to take loan to buy an expensive car, to take personal loan or credit card loan to buy house hold articles/ go on foreign vacations. Cost of borrowing money is huge and it prevents an individual to plan their investments to achieve other important goals in their life since most of the money goes in paying the EMI. For  example,  a car loan of Rs 10 lakhs @ 9% for 7 years will have an EMI of Rs 16000. Invariably we are tempted to change our old car by the time loan period of 7 years is going to be over and we end up taking fresh loan to buy a new car. This process carries on almost throughout our earning life. Had we not taken this car loan and invested this amount of Rs16000/- pm @ 9% for twenty years, it would have generated a corpus of Rs 1.02 Crore.

5. Investments in Insurance Products.  Most of us have invested our large amount of money in different insurance products but unfortunately all these products are not pure life risk coverage products. Bulk of the premium in such insurance products go towards investments and the rate of return (RoI) is not more than 5-6% at max. Aim of insurance is only to protect against the risk of life and definitely not an option for investments. There are much better options available for investments. Term Insurance is the only option which one should exercise to protect against the risk of life.

6. Direct Investments in Stock Market.  I have come across Officers who are directly investing their hard earned money into buying stocks without professional competence in understanding the balance sheet of the business in which they are putting their money, purely based on hear say/ tips from friends and recommendations through other websites etc. Most of them are into great losses and the most unfortunate part is that they are not even aware of their present situation. Direct investments in stocks require great deal of acumen in understanding the company’s business, regular monitoring and high risk appetite. For people like us, better route may be through equity mutual funds.

7. Inadequate Financial Awareness.  Lack of financial awareness restricts the investment options. It is very essential that all of us must devote some time to read books/ magazines/journals on the subject. More we are aware financially, better we can manage our money.

It is my sincere request to one and all to devote some time  on management of money with the aim of making money work for us rather than we working for money all the time.
Happy Investing!

Selecting good mutual fund schemes

Most of us while selecting a mutual fund scheme for investments look for recommendations from friends, browse through various tips given on different websites and take a decision based on the ratings given  by different agencies. We hardly try to evaluate a scheme based on its analytical parameters. Although there are different parameters to evaluate any mutual fund scheme to say Standard Deviation, Sharpe ratio, Sortino ratio etc, we shall discuss two main technical parameters which can give us fairly good idea about any equity based mutual fund scheme. 


It is a measure of a particular mutual fund scheme’s price (NAV) movements (upward and downward) in relation to it’s benchmark index. Beta of a fund is defined as the excess returns of the fund over the risk free rate as compared to the benchmark index . Let me explain this with the help of an example. Let us assume we get 7% interest from our Fixed Deposit. This is the risk free rate because we do not take any risk when investing in Fixed Deposit (Normally risk free rate is taken as current treasury bill rate). Let us further assume that we have invested in a fund whose benchmark index is Nifty 50 and the beta is 1.5. If Nifty 50 rises by 10%, how much return can we expect from our fund? We shall use this formula to find out expected returns.

Return of Fund = Risk free return + Beta x ( Return of Benchmark index – Risk free return)

In this example Return of fund = 7% + 1.5 x ( 10% – 7%) = 11.5%
What happens when this Nifty 50 benchmark index falls 10%
Return of Fund = 7% + 1.5 x (-10% – 7%) = -18.5%

We can see that, beta is a double edged sword. Higher the beta, higher is the potential returns in bull market, but we also risk higher losses when markets go down. A fund with beta of less than 1 is considered a low beta fund; funds whose beta is much more than 1 are high beta funds. It is important to understand that, a high beta fund is not necessarily a bad fund and vice versa. We should select funds with higher or lower beta based on our risk appetite. If we have an aggressive goal and high risk appetite, we can select high beta funds; on the other hand if we are less aggressive and want more stability in our portfolio we should select a low beta fund.


This is the single most important analytical parameter of  evaluating any mutual fund scheme. Alpha is the excess returns generated by the fund manager, compared to what he or she would have expected to get after factoring in the risk taken by him or her. Mathematically we can say

Return of Fund = Risk free return + Beta x ( Return of Benchmark index – Risk free return) + Alpha

If we compare two formulas ( Beta and Alpha), Alpha is the value addition by the fund manager for the same amount of risk taken. In the above example instead of fund giving -18.5% returns in case of 10% fall in Nifty 50 index, had it given -16.5% returns, the alpha would have been 2.

Top performing funds which have outperformed consistently over a longer period of time will have high Alpha. If a fund manager has generated high alpha, it is quite likely that he or she will generate high alpha in  future as well. High alpha speaks of the fund manager’s ability of pick up good stocks while constructing a portfolio. We should always look for those mutual fund schemes which are having high Alpha.

Debt Funds

As I have already explained in my earlier article, there are two main risks in debt funds namely, interest rate risk and credit risk. If we are able to select the right schemes based on these two risk factors, then debt funds can help us meet our specific investment needs. Accordingly, in our view, the two most important analytical measures for selecting debt mutual funds are modified duration and credit quality.

Modified Duration

Bond prices rise when interest rate falls and vice versa. Some bonds and debt funds (which invests in bonds) are more sensitive to interest rate changes compared to others – they rise faster when interest falls and fall faster when interest rate rises. The interest rate sensitivity of a bond or debt fund is known as the modified duration. Modified duration is simply the price sensitivity of a bond to changes in yields or interest rates. So if the modified duration of a bond is 10 years and interest rates go down by 1%, then the bond price will increase by 10%.

Some investors wonder, why is price sensitivity of a bond called Modified Duration? In the literal sense, duration should be related to the tenure (maturity) of the bond? Even from a technical standpoint, modified duration is closely related to the bond maturity profile of the debt fund. Risk and returns are directly related. If we want to get more returns by taking more risk, select a fund with high modified duration, but if we want stability then select a fund with moderate to low modified duration – modified duration of less than 2 years. Higher modified duration debt funds will give us significantly higher returns than traditional fixed income schemes like FDs, Government Small Savings Schemes etc. in favorable (declining) interest rate scenarios. Even moderate modified duration debt funds (modified duration of 1 – 2 years) can give better returns than traditional schemes in stable interest rate scenarios. Schemes whose modified duration are less than 1 year fall in the money market category – these are very low risk schemes and the returns are also lower.

Credit Quality

Let us now come to credit risk. Higher the credit quality profile of a fund, lower is the risk of price (NAV) decline due to credit rating downgrade or default. The risk of an AA rated bond defaulting is much less than a BB rated bond. Therefore, if you want to reduce the credit risk of your investment select a debt fund which has a high proportion of AA or higher rated bonds in its portfolio. Let us understand how credit rating scale works. The table below describes the credit rating scale used by CRISIL to rate debt securities

We should select funds based on credit quality, as per our risk appetite. If we have low risk appetite, select funds which have 80% or more of their bond / NCD portfolio in AA or higher rated securities. However, we should note that, lower rated bonds give higher yields. Not all lower rated bonds get downgraded; only a few ones facing serious financial troubles are downgraded. If we want to capture an extra few percentages of yield we can invest in credit opportunities funds, which have a higher proportion in lower rated papers, but as always, we should be fully aware of the risks. It may not be advisable to take such risks for gaining few extra basis points of return. We must caution that, sometimes even a relatively highly rated debt paper (bond) can suddenly be downgraded. This will impact the returns of funds holding a high percentage of such papers in their portfolios. There has been a case like this in recent past where AAA rated IL&FS defaulted on its credit payments. 


It is our endeavor  to empower investors with knowledge to take the best financial decisions, as per their needs. Hopefully these articles help you increase your knowledge about  mutual funds, clarify doubts and focus on really important factors while doing investments in mutual funds. As always , in case of any doubt or need assistance, please feel free to reach us. We are always there for you.

Why should we continue with our SIPs in volatile or lower markets?

Legendary investor, Warren Buffett has often suggested that discipline is one of the most important attributes of successful investors. While investing behavior of most investors is influenced by greed and fear, successful investors do not allow greed and fear to override discipline. Discipline versus greed and fear distinguishes investors from speculators. Speculators make their investment decisions based on how they expect the market to trend in the near term. Investors on the other hand, make investment decisions based on their risk appetite and financial goals.

Shift in investor attitude

Historically, investment behavior or attitude of retail investors in India was largely speculative in nature. Investors increased their investments in equity in bull markets and exited out of equity in bear markets. However, over the past few years we saw a shift in investor attitude towards volatility.

As per AMFI data, in 2015, when we saw a sharp correction in the market, net inflows to equity mutual funds increased on year on year basis. The stock market has been fairly volatile this year too, though we have not yet seen a deep correction so far. Keeping with the trend seen in 2015, net inflows to equity mutual funds year to date in 2018, have increased on a year on year basis. This shows a shift in investor behavior from speculative to long term goal based investing. This is a testimony to increasing investor maturity and is very encouraging development for the investment ecosystem in our country.

Disciplined investing through SIP

One of the main contributing factors to this change in investor behavior is the rising popularity of Systematic Investment Plans (SIP) in our country. SIP takes speculation out of the equation in investing because in SIP, there is no price target for investing. You are investing at different price levels through SIP. Since stock markets are intrinsically volatile in nature, you will be investing both at high prices and low prices – this is known as Rupee Cost Averaging.

Every rupee invested by you will earn returns in the long term and the longer you remain invested, you can earn higher returns. Since you can start SIP with small amounts of monthly savings, you can start investing early. Remember, every SIP installment will help you earn good returns in the future and returns earned on each of your installments will in turn earn returns (profits themselves). Return on return or profit on profit is known as the power of compounding. The power of compounding in SIP is high because most of our SIP installments will  remain invested for a long time earning high returns for us.

The most important attribute of SIP is disciplined investing. We do not need to worry about market levels or having a large corpus to put in at the right level. By investing from our regular monthly savings through ECS/OTM(One time mandate) from our bank, SIPs puts our financial planning on auto pilot. Over a period of time, discipline becomes a good habit – our discretionary spending will be in control and as our income increases over time, we will be able to save and invest more for our financial goals.

SIPs in volatile and bear(low) markets

Warren Buffett famously said once that, “only when the tide goes out do you discover who is swimming naked”. What he is implying that, everything looks hunky dory in bull market and money can be made fairly easily. However it is in the bear market, which is inevitable, that tests how good an investor you are. Money made in 2 – 3 years of a bull market in speculative investments can be lost in a few months of a bear market – this is what Buffett means when he says, “you discover who is swimming naked”. Bear markets are unpredictable – you will not be able to guess when it will strike and how much will it fall.

Trying to time the market is a futile endeavor. Let us understand why. Firstly, we can never be sure of the market trend direction unless there is a significant one way movement, by which time the price damage has already been done – if we panic and sell, we will be selling at considerably below the highs. After we sell (redeem), we will be waiting for the market bottom – bottom is even more difficult to predict because in a bear market multiple bottoms are made. So we will wait for a confirmation that a bottom has been made. What is this confirmation – basically we want to see solid evidence of a recovery. This means a longer wait. Recovery from bear market has historically been furious – we have seen a number of times that the market recovers a lot of ground from bottoms in just a few trading session. However, we cannot be sure, if this is sustainable, so we want to see more evidence. As the market bounces back, entry becomes increasingly difficult and investors have to wait longer. Finally, investors usually end up re-investing at much higher levels and there is big opportunity loss.

SIP in good equity mutual funds will ensure that we are never swimming naked no matter how strong the tide is. In fact, bear markets are greatly advantageous for disciplined investors in SIP because rupee cost averaging in a bear market will greatly reduce our overall average acquisition cost and in the long term, we can get excellent returns. Volatility is stressful for investors because no one wants to see their hard earned money going down in value. However, if we understand the fundamental principle of rupee cost averaging and futility of trying to time the market, then volatility is highly advantageous for SIP investors.

Opportunity loss of stopping your SIP in bear(low) market

SIP was introduced in India nearly 20 years back, but it is only recently that investors are starting to realize how SIP is advantageous in volatile and falling markets. In the past bear markets, we saw investors stopping their SIPs and redeeming their investments, waiting for the correction to end before restarting again. In the following example, we will see the quantum of opportunity loss suffered by such investors.

Two investors Sumit and Sunil started SIP in mid June 2007. Purely for the purpose of illustration, let us assume that their monthly SIP amount was Rs 5,000 and they both invested in the Nifty. Sumit has continued his monthly SIP till date. Let us see how much corpus he has accumulated.

  Source: National Stock Exchange;The above is only for illustration purpose

Sumit accumulated a corpus of around Rs 12.1 lakhs with a cumulative investment of around Rs 6.65 lakhs.

Sunil on the other hand, decided to stop his SIP and redeem, when the market fell nearly 25% in 2008 fearing that the market may fall further – his fear was justified because the Nifty fell more than 50% in 2008. He stopped his investment on June 1, 2008. He put the redemption proceeds in a 2 year FD at 9% interest rate (the 1 year FD was available at 8% interest rate, but Sunil did not want to lose the higher interest in case the market volatility persisted for a long time) and waited for the market to recover. The market started recovering from March 2009 onwards but the sentiments were so badly bruised that Sunil needed more time see gain confidence in the evidence of solid recovery. By Aug 2009, the market recovered Aug 2008 levels, but it still way below January 2008 highs. However, since the price had recovered to the level at which Sunil sold, he resumed his SIP and continued it till date. By June 2010, when his FD term expired, Sunil had gained more confidence in equity market, so he invested the maturity proceeds of the FD in lump sum in Nifty. Let us now see how much corpus Sunil accumulated.

Source: National Stock Exchange;The above is only for illustration purpose. 

Sunil accumulated a corpus of Rs 10.8 lakhs (Rs 1.4 lakhs less than Sumit) with a cumulative investment of around Rs 6.0 lakhs (Rs 50,000 less than Sumit), even though he put in much more effort than Sumit tracking market levels and shifting asset allocations.


Sunil is not the only example of investors who were worse off by stopping their SIPs in volatile markets. In fact, based on our experience, many investors fared much worse than Sunil because he was able to re-enter in 1-2 years, whereas many investors waited for 4 – 5 years till 2014 bull market rally began and prices were much higher. It is imperative to understand the difference between risk and volatility. Risk is the possibility of making a loss. We will make a loss, only if we sell; if we remain invested, chances of making a loss are very low, because the market will eventually recover and set new highs. Instead of worrying about volatility and trying to time the market, both of which are uncontrollable and unpredictable, we should remain focused on our financial goals and remain disciplined in investing through systematic investment plans.

Why Debt Mutual Funds are good for short term investments?

Debt mutual funds are ideal investment options for investors for short term investments. Their risks are much lower than equity or equity oriented funds, they have the potential to generate superior returns compared to traditional fixed income products and they enjoy a significant tax advantage over bank savings and Fixed Deposits.

What are debt funds?

Debt mutual funds invest in debt and money market securities. Money market securities include commercial papers, certificate of deposits, treasury bills etc, while debt securities include Government and Corporate bonds. We should be aware of the fact that unlike bank FDs or Government Small Savings Schemes, debt mutual funds are subject to risks. There are two main risk associated with these funds:-

  1. Interest rate risk. It refers to change in price of the debt instrument with changes in interest rates(based on Repo rate as decided by RBI from time to time). As far as interest rate risk is concerned, it is directly related to the maturity profile of the underlying securities. Maturity is the time period at the end of which the issuer (borrower) will pay back the face value (principal amount) to the investor. So the debt instrument is price sensitive to its maturity duration due to changes in interest rate. If the duration of a debt instrument is 3 years, then for every 1% change in interest rate, the price will change by approx 3%. As a thumb rule, debt instruments have an inverse relationship with interest rates; if interest rate falls, price of the debt instrument rises and vice versa.
  2. Credit risk. If the issuers of the debt instruments (the borrower) do not meet their debt payment obligations(interest and principal amount), it amounts to credit risk. Credit ratings assigned to debt instruments by credit rating agencies are a measure of credit risk. It is important for us to note that if a debt instrument is held till maturity, then price change will have no effect on returns. That is why in the current debt market cycle, accrual based short term debt funds may be a good option.

What are the debt funds one should consider and why?

Liquid, Ultra short term debt funds employ accrual strategy to reduce interest rate risk by holding securities in their portfolios till maturity. They earn primarily coupon rate of the debt instruments. On the other side, income, Gilt and other dynamically managed debt funds perform based on interest rate cycles. Lets see different types of debt funds.

Liquid Funds: Liquid funds are money market mutual funds, where the residual maturity of portfolio securities do not exceed 91 days. Redemption requests are processed within 1 day and money credited to the investors’ bank account on the next business day. These funds do not have any exit load, which means that we can redeem our investments partially or fully at any time without paying penalty. Liquid funds are comparable to our savings bank account from liquidity perspective. In the last one 1 year, average liquid fund category return was 6.5%, much higher than savings bank interest rate.

Ultra short duration Funds: Earlier known as Liquid Plus Funds, they invest in very short term debt securities with a small portion in longer term debt securities. Most ultra short term funds do not invest in securities with a residual maturity of more than 1 year. Also referred to as Cash or Treasury Management Funds, Ultra Short Term Funds are preferred by investors who are willing to marginally increase their risk with an aim to earn commensurate returns. Investors who have short term surplus for a time period of approximately 1 to 9 months may consider these funds.

Short duration Funds: These funds invest predominantly in debt securities with a maturity of up to 3 years. These funds tend to have a average maturity that is longer than Liquid and Ultra Short Term Funds but shorter than pure Income Funds. These funds tend to perform when short term interest rates are high and could potentially benefit from capital gains as liquidity comes back to the market and interest rates go down. These funds are suitable for conservative investors who have low to moderate risk taking appetite and an investment horizon of 9 to 12 months.

Income Funds, Gilt Funds and other dynamically managed Debt Funds: These funds comprise of investments made in a basket of debt instruments of various maturities . These funds are suitable for investors who are willing to take a relatively higher risk and have longer investment horizon. These funds tend to work when entry and exit are timed properly; investors can consider entering these funds when interest rates have moved up significantly to benefit from higher accrual and when the outlook is that interest rates would decrease. As interest rates go down, investors can potentially benefit from capital gains as well.

Tax Advantage of Debt Mutual Funds:  If held over 3 years or longer, debt mutual funds enjoy a considerable tax advantage over bank FD. Long term capital gains in debt mutual funds are taxed at 20% with indexation benefits. Let us assume we invested Rs 1 Lakh for 3 years and 1 day in a short duration fund in FY 2014 – 15 and redeemed in FY 2017 – 18. Assuming annualized pre-tax return was 7% compounded for these three years, tax calculations would be as shown below:

Therefore,  effective tax rate on actual cash profit is only 8.1% as compare to much higher figures in case of bank FD( 30% tax on accrued interest if we are in 30% tax slab)


1. We discussed different types of debt funds; investments can be planned based on investment needs.
2. Debt mutual funds enjoy considerable tax advantage over traditional fixed income schemes, when invested over long tenors (3 years plus).

Investment Strategy : Debt Mutual Fund

This year RBI has been on a trajectory of tightening interest rates in an effort to control inflation. Repo rate has been raised three times. Repo rate hikes by the RBI raise bond yields, cause bond prices to fall and results in lower returns, especially for long term debt mutual funds. Surprisingly, RBI did not increase the repo rate in their October monetary policy meeting despite the US Federal Reserve hiking the Fed Funds rate in September. The 10 year Government Bond yield has moderated slightly from 8.2% to 7.8%. Long duration funds and Gilt Funds were the best performing debt mutual funds in the last 1 month; these two fund categories, on the other hand, were the worst performing debt fund categories in the last 1 year. In this article, we will discuss debt fund investment strategy in the current economic situation in India.

History of RBI interest rate actions

The chart below shows the history of RBI repo rate actions over the last 5 years. You can see in the chart below that repo rate peaked in January 2014 and since then RBI had been bringing down interest rate till August 2017. From August 2017 to June 2018, RBI maintained status quo on interest rates and then in the next two monetary policy meetings hiked the repo rate twice, each time by 25 bps. Surprisingly in the October meeting, RBI held repo rate at 6.5%, when the market was expecting a rate hike to arrest INR (Indian Rupee) depreciation.

Source: RBI

Let us now see what RBI rate actions did to the benchmark 10 year G-Sec (Government of India bond) yield in the last 5 years. You can see that the 10 year G-Sec yield was declining from April 2014 to July 2017. This was a great phase for long term debt mutual funds investors; many investors got double digit returns. Since August 2017, bond yields have been rising and this has caused long term debt fund returns to be disappointing for investors.


Returns of different debt fund categories in the last one year

The chart below shows the returns of different debt fund categories in the last one year. You can see that shorter duration funds clearly outperformed longer duration funds. This shows that the shorter end of the yield curve presents better investment opportunities in the current interest rate environment. Please note that we are showing category average returns; individual debt mutual fund schemes may have outperformed or under performed the category returns.

Source: Advisorkhoj
What should your fixed income strategy be?

When outlook on bond yields is uncertain, with rising short term yields the best strategy in the near to medium term is accrual. In an accrual strategy, you hold short duration or very short duration bonds or money market instruments till maturity. In this strategy, you will earn the interest (coupon) paid by the bond and bond price changes will not affect your returns because by holding the bond to maturity, you will get the face value (price changes in the interim will be irrelevant).

The chart below shows the India yield curve and its shifts in the last 6 months. You can see that the yield curve has shifted upwards more towards the short end compared to the longer end in the last 6 months. From a risk return perspective therefore, it makes more sense to invest in shorter end of the curve because you will get better returns relative to risk taken by investing in the longer end of the curve.

As such, in our view, for investors with shorter investment tenors (less than 3 years), it is better to invest in shorter duration funds compared to longer duration funds. You can invest in liquid funds, ultra short duration funds, money market funds, low duration funds, short duration funds etc, depending on your risk appetite. To get higher yields you can also invest in corporate bond funds or credit risk funds, but you should be clear about the risk factors before investing.
source: Advisorkhoj

Should You Take Financial Products/Advice from Banks?

I am sure we all must have received  calls from our banking relationship managers trying to convince us to buy so and so financial product..may be its a mutual fund scheme or insurance investment product. When we go to our banks, they will try and push us to buy one of their financial product, whether we require it or not.

Do they really care what is best suited for us without understanding our investment objectives and risk profile? No. They have to just  meet their targets by selling(or mis-selling) a financial product as part of their non banking revenue generation.When I say mis-selling, I mean

1. Concealing material, important and relevant information about the product
2. Whether the product is suitable to the customer or not
3. Not explaining the risk associated with that product and
4. Making misleading and false statement

This kind of mis-selling by our banks is difficult to quantify because most of these things happen through verbal communication and we end up buying their financial products which are neither suitable for us nor help us meeting our financial goals.

Many Asset Management Companies (AMC) which are running different mutual fund schemes are from the same fund houses which own these banks. Most of the banks will try and sell their own financial products, irrespective of the fact whether it’s beneficial to us or not.  Please take a look at the table below which shows that these banks get maximum commission by selling their own mutual fund schemes.(courtsey: OutlookAsia)

So should we go ahead with buying financial products as offered by our banks or should we take a deliberate decision where to invest our hard earned money? Before deciding which financial product would be good for us, let’s spend some time in deciding our future goals, do our risk assessment and then start investing in the most suitable financial product which has the potential to meet our financial goals.
If we  find it difficult to  handle this, no  harm  in  taking  financial  advice  as we  take it  in other matters (legal, medical etc). Avoid taking advise from Banks on your personal financial matters. They may not be true to you…
Disclaimer : No offence meant for Indian banks.