These plans do not guarantee returns, but offer tax benefits
WITH some mutual fund houses pitching capital protection-oriented schemes as a viable alternative to bank fixed deposits (FDs), investors must keep in mind that these funds unlike FDs try to protect the capital amount and do not guarantee returns.
Birla Sun Life Mutual Fund and IDFC Mutual Fund have launched capital protection funds with tenure of three-five years. Both the fund houses promote the funds against bank FDs with the promise of protecting an investor's capital, in addition to striving to give better returns than bank FDs. There are already around a dozen capital protection funds from fund houses such as Franklin Templeton, DWS Mutual Fund and UTI Mutual Fund.
Capital protection schemes are close-ended schemes that invest a large portion (up to 90 per cent) of their portfolio in good quality debt papers, which have maturity similar to the tenure of the schemes, and the rest in equity instruments. While the money invested in debt instruments tries to recover the principal amount, the return from the portion in equity adds to the principle amount giving investors both capital protection and good returns (see illustration below). Besides, capital protection, returns from such funds are tax-efficient with the advantage of indexation and a lower tax rate of 10.3 per cent (as op- posed to 30.9 per cent in the case of FD).
So, while over 80 per cent of the portfolio in debt papers held till maturity ensures that capital is protected, the performance of the equity portion determines the kind of return one can expect such funds.
The objective of capital protection funds is to keep the principal amount intact and take risk on the interest accrued over the tenure of the fund. However, while the initial capital may remain protected, returns are not guaranteed and a lot depends on the equity markets at the end of the tenure.
Capital protection is achieved over the long term and that's why all these schemes have either a three or five-year tenure. But investors must keep in mind that these are capital protection-oriented funds and do not promise guaranteed returns
In India, investors have around Rs 3,700,000 crore in bank FDs compared to the total mutual fund industry size of Rs 800,000 crore.
Keeping in mind the corpus of FDs, several fund houses have since 2006, when the Securities and Exchange Board of India came out with the guidelines on capital protection funds, launched these funds on a regular basis to attract investors, who have their money locked in traditional investment instruments such as FDs. The average one-year return from the existing capital protection oriented funds is 14.5 per cent, with the best return during the period being 22.22 per cent and the worst being 7.34 per cent.
