Received FMP maturity proceeds? Here are options to reinvest the money for better returns

Investors in fixed maturity plans typically look for relatively less volatile returns than those offered by open-ended bond funds

May 19, 2021 / 09:56 AM IST

Come April and investors in fixed maturity plans (FMPs) receive a significant amount of as maturity proceeds. As per data released by the Association of Mutual Funds in India (AMFI), Rs 22,496 crore was paid to FMP investors. Also bond schemes investing in portfolios with duration of less than one year saw net inflows of Rs 98,526 crore. Some of these investors may be sitting on the sidelines till the uncertainty around COVID-19 induced lockdowns recedes and some clarity on interest rates emerges. Here are a few investment options you can explore.

Searching options if interest rates go up

As inflation is expected to rise globally, interest rates are expected to follow suit and compensate investors. Central bankers have ensured that there is ample liquidity in all financial markets. However, as economic activity gains momentum, there is a fair chance that liquidity will be curtailed and interest rates hiked. In the wake of COVID-19 pandemic’s second wave, rates may not rise soon. Experts believe that it is going to be a calibrated process and that the Reserve Bank of India (RBI) will avoid any sharp moves. Devang Shah, Co-Head of Fixed Income at Axis Mutual Fund, says, “Though the RBI may hike repo rates in the next financial year, the reverse repo rate may be increased gradually in the current financial year. This may push up yields.”

Don’t lock funds for the long term

When interest rates rise, you are better off not investing for the long term. Investing in a long-term fixed deposit may deprive you of higher interest rates, if they are offered later on. Investors in long duration and gilt funds made handsome gains in CY2020 when interest rates were cut. Gilt funds as a category gave 11.99 percent returns in CY2020, according to Value Research. However, in a rising interest rate environment, these funds may offer far lower returns. There is a chance of marked-to-market losses in case interest rates move up fast. Looking at past returns of debt funds is meaningless.

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Can you earn assured returns?

Investors in FMPs typically look for relatively less volatile returns than those offered by open-ended bond funds. Some of these investors can look for assured returns options such as Senior Citizens Savings Scheme and Pradhan Mantri Vaya Vandana Yojana (PMVVY). Though the rates on offer are higher than those on other comparable products, the interest earned is taxable in the hands of the investor.

Also read: The government’s U-Turn on small savings interest rates: Should you continue with small saving schemes?

If you have already availed of such options, then you can look for investments in National Savings Certificate (NSC) and fixed deposits issued by well managed non-banking financial institutions. Some of these offer a bit more than comparable fixed deposits of nationalized and large private sector banks. Avoid fixed deposits that offer too high interest rates, as they connote high credit risk.

Vikram Dalal, Founder and Managing Director, Synergee Capital Services says, ““Bonds issued by public sector enterprises and well-managed AAA-rated private entities can be bought in the secondary market by investors who are in the low income tax bracket.”

“Savvy investors in high income tax slabs can consider investments in tax-free bonds, as they offer attractive yields,” says Joydeep Sen, Corporate Trainer-Debt. However, you have to do some homework to identity the right bonds and place orders accordingly. Tax-free bonds with 4.3 percent yield are as good as bonds offering 6.15 percent yields pre-tax, for individuals in the 30 percent tax bracket. Also, these are issued by central public sector undertakings and hence they carry little credit risk.

Bond funds

Even though bond funds give moderate returns in rising interest rate scenarios, you can still pick those that can do well, if you choose your options carefully. Short-term debt, corporate bond and Banking & PSU debt funds are some options. “Investors should ideally opt for short duration funds. Accrual focused schemes investing in good quality AA-rated bonds can also be considered,” says Shah. Just make sure you stay invested for at least three years to get better tax treatment.

Target maturity funds also help you navigate rising interest rates. These come closest to FMPs. “These funds invest in government securities and AAA-rated bonds. They are a good investment option for conservative investors,” says Sen. These funds carry low credit risk, but can be volatile in the interim if interest rates inch up. These funds, if held to maturity, can give you attractive post-tax returns.

Dalal recommends investments in Bharat Bond ETF for investors in high income-tax brackets. “Go for the one that has a residual maturity of more than three years to make the gains tax efficient,” he adds.

You should not dump fixed income just because the interest rate are unattractive. Your asset allocation should decide your exposure to fixed income and not the returns in the recent past. Investing at regular intervals across maturities can help ladder you investments and cut the impact of changes in interest rates.
Nikhil Walavalkar
first published: May 19, 2021 09:56 am

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