Money Jan 31, 2013
The Reserve Bank of India on Tuesday cut its key policy rate and cash reserve ratio (CRR) for banks by 25 basis points. The CRR cut frees up Rs 18,000 crore for banks to lend to consumers. The CRR is the amount that banks have to park with the central bank on a compulsory basis.
By today, State Bank of India, Royal Bank of Scotland and IDBI Bank have cut their base rates in the range of 5 to 75 basis points, making loans cheaper for new as well as existing borrowers. HDFC Bank and Federal Bank also cut rates for auto loans. IDBI Bank also decreased its interest on select fixed deposits.
Experts believe that more banks are expected to follow, either by slashing base rate or cutting interest rate on select loans, and eventually reducing interest rates on fixed deposits.
Simply put, as of now, we are in a falling interest rate scenario. And as a lay investor if you are not sure, where to invest in this current falling interest rate scenario, read on.
If you just started working or fall in a lower tax bracket, and is looking at for low-risk-high-return investment, getting locked in fixed deposit is a good option.
"As of now, interest rates are high, but banks are expected to start cutting rates on fixed deposits soon. A few banks have already cut rates on the lending side. So, now is a good time to get locked in FDs," said Pankaj Mathpal, a Mumbai-based certified financial planner.
But the tenor you invest in here matters. Do not invest in short-term FDs, since they will come with a reinvestment risk. A medium- to long-term FD would work out as a better option, which will help you remain invested at a higher rate for a longer duration. Banks are currently offering FD rates in the range of 9.25 percent to 10 percent for tenures of 3-5 years.
"You could look into investing in company fixed deposits as well," said Mathpal. Of course, company FDs give a slightly better returns than bank FD, but they do come with slightly higher risk.
As of now, company FDs are offering rates in the range of 10 percent to 13.25 percent for FDs with 3-5 years maturity.
On debentures, Mathpal said that lay investors should stay away from them, unless they understand the dynamics of the instruments. Keep in mind that if you are a senior citizen, you will get around 50 basis points more over the banks FD rates. So FDs are even better deals in a falling interest rate scenario for pensioners and grey heads.
Long duration debt funds: We spoke to a few financial planners and all of them echoed that in a falling interest rate scenario debt funds are the investment avenue to look into. Here we are talking about medium- to long-term debt funds. When interest rates fall, these funds offer better capital appreciation.Some planners especially think you should invest in dynamic bond funds/ income funds.
These funds invest in bank FDs, corporate bonds and government security. In fact, most mutual fund experts expect investors to invest in income funds in this falling interest rate scenario. Income funds are schemes that invest with the objective to generate income and capital appreciation. When interest rates fall, the net asset values of these funds are likely to increase in the short run and vice versa. Some planners especially think you should invest in dynamic bond funds/ income funds. In Dynamic bond funds, the fund manager gets the flexibility of choice to move from short term and long term instruments depending upon the interest rate scenario. And hence, planners say they are a better choice over other income MF's.
Another set of debt funds to look into is long-term gilt fund. Gilt funds invest in government securities and have a potential to offer the best returns. But they are very volatile in nature and hence, you should keep that in mind.
Now that you have some direction as to where your money should be invested in a falling interest rate scenario, get in touch with your financial advisor for specific scheme details.
Disclaimer: The story aims to help readers with a direction towards their money related decisions and choices. Each individual has his or her own financial situation and circumstance. We recommend that you consult a Certified Financial Planner before you buy a financial product or service.
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