The year 2008 is near its end. Stocks are down, bond prices are up, developed economies around the world are caught in a recession quagmire and emerging markets are fast slowing down. The annus horribilis that was 2008 could pass on its misfortunes to the New Year.

Year 2009 may not bring any cheer for investors who seek safety in bank deposits. Many risk-averse investors had locked their surpluses in bank deposits for an assured 10-10.50 per cent interest in September-October. But banks have already lowered their maximum deposit interest from 10.50 per cent to 10 per cent from December and are planning a further rate cut from January 2009.

With the inflation rate declining faster than expected, the Reserve Bank is expected to cut interest rates in its quarterly monetary policy review in January to boost domestic demand and economic growth.

If inflation comes down to 6.5 per cent or below by January next year, commercial banks will certainly reduce their peak interest rates on deposits to 9 per cent and below.

Economists believe inflation could fall to the RBI’s comfort level of 5-5.5 per cent by June next year. If it does, you can expect the maximum interest rate on bank fixed deposits to come down to 8 per cent or less than that. Interest on bank fixed deposits will be on a par with government-run small savings schemes such as Post Office Monthly Income Scheme, PPF and NSC.

Good for debt

Declining inflation and interest rates will augur well for debt investments, which are riskier than bank fixed deposits.

Prices of debt papers such as government securities, corporate bonds and debentures vary inversely with interest rate and inflation. When interest rate and inflation come down, prices of debt papers go up, resulting in a lower yield — the rate of return that you can expect to get (from the date of investment) by holding onto the investment till maturity.

But if you are not waiting till maturity, you can benefit from the high price if you sell the bond now.

The yield on 10-year government securities (gilt) has come down sharply to 5.56 per cent as on December 19 from a high of 9.3 per cent in August-September. At the same time, prices of the 10-year gilt rose steeply in the last five months following a decline in inflation and interest rate. Moreover, more investors flocked to the debt market after stocks crashed.

Gilt mutuals

The benefits of declining interest and inflation rates are visible from the returns of debt mutual funds. Some gilt mutual funds, which invest predominantly in government securities, have yielded a 42.47 per cent return in the past 12 months. Medium and long-term gilt funds have given an average one-year return of 22.35 per cent.

Other debt mutual funds, which also invest in corporate bonds, debentures, commercial papers and certificate of deposits besides government securities, have yielded between 24.47 per cent and 17 per cent returns.

Gilt and debt mutual funds have given a higher average return in the last six months — in the range of 12 to 20 per cent. This trend is likely to continue for six to nine months of 2009.

Gold is good

Gold and gold exchange traded funds could be another safe investment avenue in 2009. Gold prices in the international markets have witnessed a steady rise in December. Experts believe the demand for gold will surge further because of another reason — depreciation of the dollar against major currencies.

The prices of precious metals rose steadily over the last few years on the back of a depreciating dollar and a surge in crude prices. But since the liquidity and credit crisis the demand for the dollar suddenly rose as foreign institutional investors began to pull out from emerging markets, including India.

Dollar movement

But, experts believe this appreciation of the dollar is short-term and has no fundamental backing.

The dollar may start depreciating against other currencies from next year because of the weakening US economy.

The Federal Reserve’s “near zero interest” policy will also bring down the value of the dollar vis-à-vis other currencies. As and when the dollar starts depreciating, demand for gold will start rising again.

Long-term plan

However, if you are looking at a long-term investment horizon, equities still have the highest growth potential.

On January 1, 2008 Nifty was above 6000. It could be at 2500 when the year ends. The extreme volatility may signal a market bottom. Besides, the panic among investors and volatility in share prices have created some good investment opportunities.

Remember, all cheap stocks aren’t good stocks, but there are some bargain buys available today that will pay off handsomely in the future.

A recent study on the largest wealth creator (for shareholders) companies between 2003 and 2008 reveals that 63 companies that had a price-earning (P/E) multiple of less than 10 in 2003 created the maximum wealth (67 per cent of the total wealth) for investors.

The share prices of these companies increased at an annual compounded rate of 55 per cent to 57 per cent when the stock market entered the bull phase in 2004.

The P/E multiple of a company’s share indicates how much premium investors are willing to pay per share of the company in relation to per share profit of Re 1.

But, if you don't feel confident about choosing the right stock, leave it to the fund managers of mutual funds. A number of diversified equity mutual fund schemes are now available at a net asset value at less than half their 52-week high.

A lower interest rate regime is particularly favourable for augmenting consumption demand and hence higher profitability of companies.

The P/E multiple of a company's share indicates how much premium investors are willing to pay per share of the company in relation to per share profit (of the company) of Re 1.

Seventy-nine companies in 2003 had a price to book value (P/B) ratio of less than 2 and these companies created as much as 83 per cent of total wealth during the five years. Share prices of these companies increased at an annual compounded rate of 54 per cent to 67 per cent. The P/B ratio of a company's share is defined as the ratio of market price of that share divided by per share net tangible assets of the company. This is a measure to compare the market value of the company vis-à-vis its book value (net assets).