It was one of those unusual years where there was plenty of action in equity, gold and debt
Generally, when a year has heightened activity in asset classes such as equity and commodity, you would expect a dull year for the other asset - debt. In the year 2010, the story was different. The world was in an easy money policy but the domestic markets had a tightened situation with the condition getting even tighter in the later part of the year.
In fact, the second half of 2010 was dominated by companies and players in the financial services space. While the macro finance companies had to face the wrath of State governments, loan scams dominated the stock performance of some companies in the financial services space. In fact, these developments to a great extent tampered down the euphoric sentiment of equity markets which had a record inflow during the last quarter.
If one were to look at the performance of debt as a product in 2010, the year was satisfying with interest rates moving up by 1-2 percent during the calendar year. What pushed the central bank to tighten the money supply was the inflation rate that remained high for a good part of 2010. In fact, only in its December policy did the Reserve Bank of India (RBI) loosen the grip with a cut in the statutory liquidity ratio (SLR).
While banks did the balancing act by marginally increasing the deposit rates, not much action was seen on the lending rate front. In fact, the general view is that a further push to lending rates could dampen the investment climate and hence banks may have to look for alternate options. Many leading banks in the public and private sectors, hence, have stepped up the focus on current and savings account balances which are a cheaper source of funding. In fact, if one were to take a closer look at the performance of the banking stocks, it is only those which have a strong CASA that have been left out of punishment, while a number of smaller and weaker balances lost the froth (in their prices) considerably.
Going forward, 2011 could see plenty of action in the debt market space and it is already evident from mutual funds. To take advantage of tight money conditions, a number of them have already launched fixed maturity plans (FMPs) and the yield has been in the range of 8-8.25 percent. That offers a good opportunity for investors who can look at debt as a product for portfolio allocation.
However, while allocating funds for debt, one needs to take into account the tax angle as interest income is taxable, and this would reduce the overall returns from the product. In this context, FMPs score over other options such as fixed deposits which do not offer indexation benefit.
Another debt instrument which is popular once again is the debenture with some of the non-banking finance companies mobilising funds through this instrument. In terms of safety, they score over fixed deposits as they are secure and carry a charge. But the disadvantage is the tax angle, as the interest is taxable. However, with interest rates is being higher for these instruments, they have the potential to offer better yields when compared with other instruments such as post office monthly income plans or fixed deposits.
And the rising interest scenario is always good for short-term debt market and is evident in the improving yields. Short-term and liquid plus funds have begun to show improved performances in the last few months, and liquid funds have begun to offer returns of over five percent. They present a good alternate option to savings account balances.
