FD Interest Rates Falling, Invest in Debt MFs

Invest Debt MFs Online

Investors may need to tweak their debt investment strategy as falling interest rates has taken the sheen off traditional fixed deposits. Financial advisors say the 15-25% decline in interest income from fixed deposits requires investors to spread investments to non-convertible debentures (NCDs) and debt mutual fund schemes to boost returns.

Those who rely on interest income from fixed deposits to meet their monthly expenses have been hit the most because of easing rates.

For instance, in 2013, HDFC paid 9.2% for a quarterly income on its fixed deposit, and Mahindra Finance paid 10.25%. The rates for the same tenure are now down to 7.65% and 8.05%, a drop of more than 200 basis points (2%). Most companies accepting fixed deposits have lowered their interest rates by anywhere between 150 and 225 basis points over the last three years.

The cut in interest rates by banks and companies is in line with the Reserve Bank of India's (RBI) move to ease monetary policy encouraged by lower inflationary pressures. When inflation falls, RBI cuts policy rates to revive economic activity .

In the last couple of years, deposit rates of both banks and company deposits moved down. But, company deposits continue to pay 100-200 basis points more than bank deposits, which makes them lucrative despite the dip in rates. However, those looking to maintain their interest income at the same level as 2013 could look at some alternatives.

For slightly savvy investors, financial advisors recommend non-con vertible debentures listed on the stock exchange. There is a lot of paper available which can give you yield of 8.5-9.5%. He recommends investors to buy ` AAA' or `AA' rated NCDs such as SREI Infra, Edelweiss, Shriram Transport and DHFL.Though the volumes traded for NCDs on the exchanges are thin, investors could accumulate them when there are sellers on the exchange.

Investors could also shift a part of their portfolio to debt mutual funds.

Debt mutual funds hold a basket of government securities and corporate bonds. Investors can look at medium and short-term debt funds as they will provide better post-tax returns. Debt schemes that invest in long-term government securities benefit when RBI eases rates. Investors especially in the 20% and 30% tax bracket benefit if they hold these funds for more than three years, as they will pay only long-term capital gains tax.

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