Where to park your money for short term
In financial jargon, any investment done for less than 1 year is known as short term investment while investments for more than 1 year is long term. While most people have a good idea about long term investment assets (Gold, Real Estate, Equities etc.), they often do not have much idea about where to park your money for a year or so in case you need it at the end of a year.
You may need money in a year for your vacation or to pay the fees for your child in a foreign university or for your daughter's marriage. In such cases, you would like to put your money in those assets, which give you flexibility to withdraw without losing its principal value and also getting a reasonable return. Hence equities, equity oriented mutual funds, real estate, and commodities are out of question because they are extremely risky in short term. Safe Government backed schemes such as NSC and PPF are also out of question because they have lock in period more than a year.
Most of the people leave the money in their savings account earning a meagre interest of 4% to 6%. You don't have to earn so less on your money. There are many options available for short term investments. The key to successful short term investing is to find the best option available for you. Let's look at some of the options available for short term investment.
First let's consider the constraints:
Since it is short term investment, you cannot afford to take huge risk by investing in assets such as equities, real estates, and commodities. These assets may give humongous returns sometimes in short term but most of them also expose you to extreme risk. At best, expecting good returns from these assets in short term is pure gamble.
You need this money in a year. Hence the primary objective is to preserve capital.
FD Schemes - FD schemes are available from many banks for the period of 6 months and 1 year. The rate is typically 6% to 8%. Investors can take an FD for a year to avail a much better rate than saving accounts rate. This may not sound much after the tax is deducted but remember that the core purpose of short term investment is capital preservation.
Liquid funds - Liquid funds are mutual funds that invest in money market liquid instruments. Liquid funds offer good parking place for the fund that you will need in a year. They are relatively safe, can be converted to cash easily, and offer better returns. The typical returns provided by liquid funds vary from 4% to 10% depending on their portfolio. They also have lower interest rate risk.
Fixed maturity plans (FMPs) - FMPs are another option where investors can invest for a fixed term. Investors can invest in FMPs for which the maturity term is 1 year. The returns can be as good as 9.5%. The only drawback of FMPs is their illiquidity. They have a fixed term and hence you have to be invested in the fund for the fixed term to achieve good returns. FMPs are closed ended funds and their portfolio consists of Government securities and possibly high grade company bonds.
Short term debt fund - Short term debt funds are another alternative which can be used to invest for a year. Short term debt funds can be of many variants.
- Risk free short term funds - They invest in Government securities and cash & money market. They are almost risk free as the risk of default by the Government is NIL. The only risk they can expose investors to is interest rate risk.
- Corporate bond funds � There are mutual funds that invest major component of their portfolio in corporate bonds. These funds give high returns but also expose investors to high level of risk compared to investors in Government securities. The advantage of corporate bond funds is high returns. The return may vary from 8% to 11%. The risk is also high on corporate debt funds than Government bonds. Investors should also check the fund fee and exit load.
- Mixed funds: Mixed funds invest in risk free assets such as Government securities and money market as well as in corporate bonds which offer a better rate than Government securities. The returns are higher than that of fixed deposits. The advantage of short term debt fund is higher returns. However, they also expose investors to marginal risk by investing in company bonds.
- Other funds � Few short term debt funds mix a small part of equity too in its portfolio which further increases risk. Their mix includes Government bonds, corporate bonds, and equities.
While there are many options and all of them differ on risk and returns, investors should be careful in choosing the right option for short term investment. They should not take unnecessary risk because of slightly higher returns. The risk that comes with marginal high returns may not be worth it!
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