Wold of Finance This Week - Invest in 3-year fixed deposits and bonds to counter interest rate fluctuations : Global Organisation for Pravasis Urakam (GOPUR)

Published On: Friday, June 01, 2012

Wold of Finance This Week - Invest in 3-year fixed deposits and bonds to counter interest rate fluctuations

The soaring inflation is likely to dash any hope of a sudden softening of interest rates. And that is likely to cause a bit of heartburn among conservative debt investors, who have been recasting their portfolio in anticipation of a lower interest rate regime. However, with the consumer price inflation (CPI) climbing to 10.36 per cent in April 2012, from 7.65 per cent in January, and the recent petrol price hike of almost 11% by oil marketing companies, inflation is likely to soar further. This means the Reserve Bank of India is unlikely to rush with rate cuts in the near future. "Renewed fears of inflation uptick after the fuel price hike may delay cut in key interest rates. Money market rates may remain firm over the next one month due to tight liquidity caused by certificate of deposit issuance, government security issuance, advance tax payments on June 15 and the expected RBI intervention in the foreign exchange market," says Pankaj Jain, senior fund manager (fixed income) at Principal Mutual Fund. You can benefit from the firm rates by parking your funds in ultra short term bond funds, which will benefit the most from the high rates.

Inflationary blues:

Fuel price hikes are always inflationary. "The 11 per cent rise in petrol prices would push wholesale price inflation (WPI) up by around 34 basis points," says Sujan Hajra, chief economist at Anand Rathi Share & Stock Brokers.

A weak rupee has been importing inflation as all imported commodities, including crude oil and its derivatives, become costlier. Electricity tariff hikes in many states, ranging from 10 per cent to 37 per cent, are yet to be factored in. "WPI may cross 10 per cent by August and RBI will find it extremely difficult to go for any further cut in interest rates in the current year in such an inflationary scenario," adds Sujan Hajra. But that does not mean all is lost for fixed income investors.

Experts acknowledge that the government has done a right thing by hiking the petrol prices, which was long overdue. "The fuel price hike is a positive signal, indicating the government's willingness to contain the fiscal deficit," says Pankaj Jain. Lower fiscal deficit also means lower government borrowings, effectively bringing down the demand for money and thereby the price of money - interest rates. This can attract international investors and global risk capital may find its way back to India.

"RBI may resort to aggressive open market operations and cut the cash reserve ratio (CRR) to infuse liquidity," says Sujan Hajra. All these measures ensure that short-term interest rates may soften over a period of time, though long-term rates may take much long to come down. "Stay away from long term bond funds and remain invested in short term bond funds with one and a half year perspective," says a wealth manager.

If you are not comfortable getting exposed to interest rate fluctuations, you should look at fixed maturity plans (FMPs) offered by mutual funds. You can choose three-year FMPs. "If you want to optimise returns, stay invested in ultra short term bond funds for the time being and switch to an FMP around the second week of June when advance tax payments happen. This is the time when the yields should jump as liquidity tightens," says the wealth manager. You can also look at fixed deposits to eliminate the interest rate risk if you are not in the high income category.

"Since interest rates are expected to go down, it makes sense to lock in the money in three-year fixed deposits provided your cash flow needs and financial goals permit you to do so," says Anil Chopra, CEO & director, Bajaj Capital. It does not make sense to invest in a three-year fixed deposit when you have a big expense lined up after a year. But if it is not the case, invest in three-year fixed deposits as you will continue to enjoy the current interest rates even if the rates come down after one year. Bank fixed deposits for one to three years offer around 9 per cent rate of interest. For example, State Bank of India's three-year fixed deposit offers 8.75 per cent, whereas Union Bank of India's fixed deposit offers 9.25 per cent for three years. Company fixed deposits should offer higher interest rates than bank fixed deposits of similar term due to the additional credit risk you take in company fixed deposits. But never chase returns, as higher returns generally go hand in hand with higher risk.

You can choose to be with fixed deposit schemes floated by reputed names such as Shriram Transport Finance and Mahindra & Mahindra Financial Services offering more than 10 per cent returns for three-year fixed deposits. However, Bajaj Capital's Anil Chopra advises: "Never invest more than 5 per cent of your portfolio in one company's fixed deposit."

News Source, credit and thanks : ECONOMIC TIMES

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Posted on Friday, June 01, 2012. Labelled under , . Feel free to leave a response

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