Safety First Becomes The Small Investor Mantra

The developments in the last year-and-a half have caused investors much pain. After burning their fingers in the equity markets, small investors got their biggest jolt from the Unit Trust of India (UTI) scam.

With returns from other safe investment avenues such as post office schemes and Public Provident Fund also tumbling, the large number of retired service class and thousands of people who have taken voluntary retirement schemes are in a dilemma.

While safety is of top priority for today's small investor, the desire to earn a decent return is also an important factor.

These factors have compelled small investors to take a hard look at other avenues of investment. In such a situation, debt funds have been one of the favourite investment option with them.

 

Rattled by the equity markets and the UTI scam, the investors sought refuge in debt funds which gave an average return of 11-14 per cent in the last fiscal.

For instance, Pioneer ITI Income Builder, Birla Income Plus and DSP-ML Bond Fund have provided returns in excess of 16 per cent per annum during the last one year.

Besides, debt funds invest in government securities, bond issues by financial institutions and debentures of companies with a safe credit rating.

Consequently, the corpus of debt funds swelled by over Rs 10,000 crore during the first five months of this fiscal. While the outlook for the economy and stock markets remains subdued, the softening of interest rates has resulted in good times for debt funds. That's because the downward pressure on interest rates leads to appreciation of debt instruments held by funds.

In fact, the more than expected cut in cash reserve ratio and bank rate in the recently announced Reserve Bank of India (RBI) credit policy has spurred a handsome one-time increase in the net asset value of debt funds.

While medium-term debt funds gained by 0.5 per cent on an average, long-term gilt funds were up by around one per cent. Some of the top gainers in this category were PNB Debt Fund (1.13 per cent), Libra Bond Fund (1.09 per cent), Tata GSF (1.75 per cent) and Templeton India GSF(1.53 per cent).

Is the situation likely to continue in the future. According to a section of fund managers, the softening of interest rates is expected to continue in the future also. Moreover, the government and RBI have given a clear indication of a declining interest rate regime.

However, many fund managers also add a point of caution stating that it would not be possible for debt funds to continue offering such high returns on investments in the future.

Investors entering debt funds now will be able to get more than 10 per cent returns in the current year. Even at these rate of returns debt funds are still an attractive investment option for risk-averse small investors.

It would be always wise to study the portfolio before investing in a debt fund. A debt fund with around 80 per cent of its investments in triple AAA rated instruments should be one of the critical criteria of your investment, points out a reputed investment advisor.

Another attractive investment alternative for a risk-conscious investor is index-based funds such as Franklin India Index Fund and IDBI Principal Index Fund.

Pioneer ITI is another fund which has launched a few schemes in the last month. As these funds invest proportionately in index stocks, your investments are linked to the movement of either Sensex or S&P CNX Nifty.

Index-based funds are quite popular in the US and European markets. These funds are better than pure equity funds because there is no entry load of 1-4 per cent or the recurring management fee of 2-3 per cent.

In most of the case, the management fee is as low as one per cent. Second, as pure equity funds churn their portfolios regularly, there is regular buying and selling of stocks. This also results in higher trading expenses compared to index-based funds.

This apart, with the Sensex still languishing at around 3,000 point, there is greater probability of gains in these funds. In pure equity funds, the performance of a scheme is largely dependent on the fund manager. So a pure equity fund could outperform or underperform the equity markets but an index-based fund could provide a decent return with little bit of extra risk.