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Read the street signs to hike in rates

Whether you are a home loan borrower or an equity/gold investor, you should be prepared for a rise in funds cost


   PINPOINTING the movement of interest rates is as difficult as forecasting that of stock markets. But there are enough signs of an imminent increase in the cost of funds. Headline inflation is close to 5% and the central bank is talking of unwinding its accommodative stance. An exit from an easy money policy is a precursor to a hike in interest rates or in cash reserve requirement for banks, which is a more direct and an immediate step to drain out excess liquidity. So, how does a home loan borrower or an investor prepare herself for such an imminent event. Here's how:

LOANS

Hedge your home loan against rising interest rates by opting for a scheme that offers you fixed rates for a few years. If you already have a floating rate loan, you can reduce your interest rate burden by using available liquidity to effect a part-prepayment, on which there is no penalty.

EQUITIES

A hike in interest rates does not augur well for equities too. Historically one has seen that equity markets correct whenever there is a CRR or interest rate hike. Yet, equities continue to be a preferred asset class when an investor intends to generate inflation-beating returns. We expect the Sensex to do an EPS of Rs 1,050 for FY11. At current levels, markets are fairly valued and we expect them to be volatile during the coming fiscal... hence, investors need to choose stocks carefully. Bank scrips are particularly vulnerable to interest rate hikes. Real estate firms also see a dip in their share prices when rates rise because they are highly leveraged and are more susceptible to interest rate risks.

FIXED INCOME

Given the high chances that interest rates will rise in a few months, it makes sense to go for a short-term deposit until rates improve. Also, fixed income mutual fund investors should dump their income funds with longer-dated paper. "Stick to short-term and money market funds only for the next couple of months. In February, when clarity emerges on the government's borrowing programme, one can look at bond funds. Investors can expect returns of 100-150 basis points above money market funds in case of short-term funds," says Nandkumar Surti, CIO—fixed income, JP Morgan AMC.

GOLD

High interest rates usually follows high inflation. Gold is another good hedge against price rise. As the equity markets are expected to remain volatile, the yellow metal will vie for an investor's attention. In a rising interest rate scenario, an allocation to gold is a must.

 


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