Drop in bank deposit rates to make mutual funds attractive

The reduction in interest rates on savings deposits is an opportunity for mutual funds (MFs) to popularise their low-risk debt offerings, says rating agency Icra.

A month ago, State Bank of India (SBI) announced a 50 basis points (bps) reduction in the interest rate on savings deposits, of less than Rs 1 crore million to 3.5 per cent. Following SBI's lead, many other public and private sector banks have reduced the interest rates on saving deposits.

"This is expected to create an opportunity for liquid mutual funds to tap into retail savings, by providing an avenue for parking surplus liquidity while earning a premium over savings rate," said Icra in a release.

At present, mostly corporates and institutional investors park their surplus cash in low-risk MF products such as liquid schemes.

With the savings rate going down, liquid funds "could gain prominence as an alternative tool" for retail investors," says Icra.

"Liquid schemes have reported annualised returns in the range of 6.5 per cent to 7 per cent over the last one year. These schemes have provided 2.75 per cent to 3 per cent higher pre-tax returns, on an annualised basis, than savings accounts," says Karthik Srinivasan, senior vice president and group head - financial sector ratings, Icra.

Among the MF product suite, equity offerings are most popular among retail investors, while their investment in debt offerings is limited.

Short-term oriented debt mutual funds invest in money market instruments like certificate of deposits, treasury bills, and high-rated commercial papers, where credit risk is alleviated to some extent, says the rating agency.