More and more investors are looking to lock their investments in fixed maturity plans (FMPs) for extended time periods, driven by the possibility of securing competitive yields. These funds seem to have found new takers, evident from what has been mobilised by some of the more recent ones.
FMPs, which invest in securities that mature on or before the maturity of the plans, are being pursued primarily because of the need to overcome the uncertainty on the debt front. Such uncertainties are prompting investors to prefer predictable returns along with tax efficiency.
While there is no dearth of short-term choices, asset management companies are keen to offer funds for durations as long as three or five years. Products for 1,124 days and 1,825 days are not uncommon now. The latter are adding variety to the FMPs found commonly for the 3-18 months range.
Points to ponder
What are investors looking for in these new-generation plans? Two objectives stand out:
■ Low interest-rate risk
■ Tax advantages on account of indexation benefits
Let us elaborate on the two features.
An FMP, which includes a clutch of debt and money market instruments, can help limit the interest rate volatility for its investors. The fund manager, who seeks to allocate assets optimally across these fixed-income securities, tries to achieve the best risk-adjusted returns.
An FMP is closed-ended by definition. The maturity of each of its debt asset is on or before the maturity (that is, redemption date) of the plan. An investor cannot exit or switch units till the redemption day. On that day, the plan will be redeemed compulsorily and without any further action by the unit holders. On the maturity date of the plan, the applicable NAV will be considered.
In a typical closed-ended scenario, the portfolio turnover (which happens because of the purchase and sale of securities — an essential element of active management) is lower than an open-ended fund. In a number of cases, depending on the actual investment strategy, the fund manager may invest in a lower rated paper.
Double A-rated securities are chosen quite often. The idea is to offer smarter, market-friendly returns that such a basket of securities can potentially fetch.
As for tax advantages, the scope for indexation comes as an added attraction. This is subject to the prevailing income tax regulations. Also, no tax is deducted at source, unlike some other investments.
FMPs typically hold an appeal for corporate investors, which seek to manage their treasury in a dynamic manner. Yet, retail individuals, too, are adding them to their holdings these days. Such investors are hesitant to enter the equity markets but are still keen on getting dynamic returns from debt. Conservative investors with cash surplus, including those who normally opt for bank deposits, are also choosing FMPs.
Many, however, seem to think that FMPs offer capital protection. This is not a correct perception. There is no such guarantee or assurance. While the fund manager tries his best to obtain optimum yields, returns are actually linked to the performance of the plan’s portfolio. The latter may be made up of money market instruments, certificates of deposit (CDs), corporate debt and so on.
The fixed-income market in India has evolved well in the past few years. This gets reflected in the different risk premium attached to various classes of issuers.
Bank CDs, for example, have emerged as a popular choice, as seen from their acceptability in the secondary market. Issuances by PSU banks offer a sense of comfort. Securities issued by well-rated manufacturing companies are nearly always popular, their limited availability notwithstanding. For a few segments of the economy — such as NBFCs — competitive returns are often the norm. All these issues constitute the investment universe of FMPs.
FMP vs fixed deposits
The debate of FMPs versus fixed deposits (FD) is a seemingly endless one. FD loyalists can keep the following issues in mind:
■ Go in for deposits, especially bank deposits, if you are simply seeking fair and assured returns for your idle surplus. That would be better than keeping cash in a savings account. A standard 9 per cent per annum is what you will easily derive at the present juncture. But if you can afford to be a little bolder and assume some risks, an FMP may be a smart choice.
■ You will know the rate of interest offered by the FD right at the time of investment. Longer terms will usually, but not necessarily, earn you higher returns. Do not forget the power of compounding when you sit down to calculate returns on deposits of longer tenures.
■ Whether you are risk-averse or otherwise, real returns should be computed after considering the impact of inflation. Being an FD holder will not make you inflation-proof. Here, you may compare the FD returns with, say, tax-free bond issues lined up by infrastructure companies.
■ Like funds, bank deposits these days also spell convenience, despite the terms and conditions set by bankers. Loans can be taken against deposits, withdrawals can be effected and exits can be sought. Of course, these may come at a price — charges and fees that are levied on the depositors. Online services offered by banks are being increasingly used by customers to place deposits.
The author is director, Wishlist Capital Advisors