The investment choices of the majority of Indian investors have continued to remain conservative and conventional, to say the least. This tendency has resulted in notional sense of investment protection and growth, albeit, in reality, the inflation leaves very little by way of `real income` for the investor. Given this behavioral proclivity, the inclination to discover, discern and drive fresh investments requires conscious effort to change this habit. This, especially given the scale of opportunities available alternately in the debt mutual funds segment. And, that too without any meaningful compromise of the associated risk-return tradeoff.
The debt and money market mutual funds present themselves as a lucrative alternative (and an increasingly popular one) to the customary retail investment avenue. The underlying asset base of both the categories is by and large the same. Therefore, there is no significant diversion between the earnings potential of the debt market mutual funds or any other debt oriented investment avenue. In fact, from time to time, given the appropriateness of the interest rate cycle, the investor may choose options like the duration funds or accrual funds, as the case may be.
But a more distinguishing element in favor of the debt market mutual funds is the relatively lower tax incidence (for individuals falling under the highest tax bracket). For eg, such an investor with a less than 1year investment horizon can invest in the dividend option and attract only 14.16% dividend distribution tax on the interest accrued. This is in contrast to the 33.99% income tax incidence which a conventional debt investment accrual may attract.
Additionally, for an investor with greater than 1 yr investment horizon, the investor can avail the growth option of a long-term debt MF scheme and attract a tax incidence of only 10.30% on the gains. Alternately, the investor can also use the indexation method to discount the inflation in the accrued interest amount and save an even larger proportion.
So depending on the investment horizon, an investor can invest in scheme categories like Liquid, or Ultra short term, which cater to the investment horizons ranging from 1-day to 3-months. Or, if an investor carries a longer investment horizon, the scheme categories like `Short term debt`, `Short term gilt`, `long term bond` and `long term gilt` can be considered (in the given chronology of the time horizon). Also, the fixed time scale plans, like the fixed maturity plans too can be utilized to invest according to the desired time horizon.
Also, given the strength of the inverse-relationship which the inflation and the interest rates in the economy have with the performance of the debt funds, some recent insights may be of assistance to the investors. For instance, the RBI hiked the reverse repos by 50 bps to 5% and repos rate by 25 bps to 6% in yesterday`s policy action. With this, the RBI has hike repos and reverse-repos by 125 bps and 175 bps respectively ever since they embarked on the hiking campaign in the present phase. Having said that, it is evident from the stance of the monetary policy that future rate hikes may not be guided with the objective of `normalization`. It would be more a function of evolving situations on the global front and inflation on the domestic front. Incremental rate hikes going forward are likely to be data driven.
The article is contributed by Lakshmi Iyer - Head (Fixed Income and Product), Kotak Asset Management Company
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