Fresher: Debt instruments: Safety of corpus and assured returns

Friday, February 3, 2012

In the domestic economy, the interest rates have gone up quite high over the last couple of years, and have almost reached their peaks. The policymakers have already indicated a hold on further key interest rate hikes in the previous monetary policy review. Now with the inflation rate cooling down, analysts are expecting the Reserve Bank of India (RBI) to take some monetary softening measures, going forward.

The draw of debt instruments has increased over the last few months due to their higher returns as the interest rates have gone up. On the other hand, the equity markets are going through a phase of uncertainty due to the global turbulence. Analysts suggest small investors should increase their portfolio allocation towards safer debt instruments as the situation is quite uncertain in the equity markets.

These are some debt-based instruments for risk-averse investors:

Savings deposit

A savings deposit is virtually risk-free and also offers good returns in terms of interest. Savings deposit schemes include different types of bank deposits, provident funds, public provident funds, National Savings Certificate etc. Some of the long-term deposits also qualify for rebate on income tax and therefore become more attractive for individual investors.

   Every investor should have some exposure to these safe instruments and it is a good time to invest in these instruments as the interest rates are almost at their peaks.

Debt mutual fund

The debt-based mutual funds invest their corpus amounts in debt instruments such as government bonds, securities, corporate fixed deposits and debentures. Since the interest rates have gone up, debt based mutual funds are expected to offer better returns due to better realisation on underlying debt instruments.
There are many options available among debt funds and you can invest according to your investment horizon and risk-returns balance. Short-term investors can invest in liquid funds which offer good returns and are highly liquid. On the other hand, investors looking for higher returns can invest in pure debt funds or balanced funds.

Tax-saving options

Tax-saving instruments provide double benefits for investors - saving income tax on their earnings as well as locking their funds in safe instruments. It is close to the end of the current financial year and investors who have not yet completed their tax planning can look at investing in appropriate tax-saving instruments.

There are many long term debt funds available in the market at the moment. The returns net of tax are quite attractive in most of these schemes as they offer tax benefits too.

Market-linked structured products

There are many innovative and structured products available in the markets. These products offer capital protection as they invest a major percentage of the fund in debt instruments. On the other hand, the returns are based on market movements and linked to the equity markets through F&O strategies. Therefore, these products promise a better balance of risk and returns.

These are new products and are sold on mathematical calculations and derivations. Many of these products have high management charges and fees. Therefore, investors should go through the various fund management charges as well as their terms and conditions carefully before committing large sums to these instruments.

The draw of debt-based instruments is high as the interest rates have peaked after several successive monetary tightening steps by the RBI. Some analysts are expecting interest rates to start coming down in the near future. Debt instruments hold potential for all investors - those with a high risk appetite as well as those with a low risk appetite.

The RBI is expected to take some monetary softening measures now that the inflation rate is cooling down

Since the markets are going through an uncertain phase, small investors should increase their allocation towards safe debt instruments

There are many options for risk-averse investors such as PPF, FD, RD, NSC etc. Long-term deposits also qualify for rebate on income tax

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