So what is the alternative to FD’s ?

In the last post I wrote about why FD as an investment is not at all a suitable one. It offers low returns and is clearly not tax efficient. The natural question therefore is, which are the investments to replace traditional bank FD? In this post I will try to answer the same.

Let us first look at why do people invest in FD. There can be many reasons but 3 of them are the most common ones:-

  1. Many people simply do not know of any options for savings and think this is a safe way which will also earn some returns.
  2. Some investors look at FDs as a good place for an Emergency fund and also for any goal that may be coming up in the next 1-5 years.
  3. Retired people and others who want a regular source of income keep their money invested in FD for the longer term.

In this post I will deal with the first two as the last one is more complex in nature and deserves to be dealt with separately.

For the first category of people, if they are able to keep the money for long term, my recommendation will be PPF. The returns here are more than FD today and they are tax free. Moreover you get 80 C benefits with PPF, so if you have not exhausted your 1.5 lac limit through other means, this is a great benefit. Also, though PPF is for a 15 year term, you can make withdrawals after 6 years. Finally, if you start early, this will be a great backup to your MF redemption, in the years which are not good for equity.

What if you do not want a long term product such as PPF? Well, one option can be Arbitrage funds which will probably give you returns of around 7 %. While this is pretty much the same as FD, the tax treatment is much better as you will not be paying any taxes on the capital gains after one year. You can therefore park your money here and redeem it in a tax free manner for any needs in an ongoing basis. Arbitrage funds are also quite risk free as far as your capital is concerned, unlike equity funds.

Regular Debt funds or FMP, MIP etc will work if your time frame is at least 3 years. This is the time you need to keep your money to get indexation benefits for LTCG. Note here that with the Cost Inflation Index ( CII ) being dampened due to lower inflation numbers, you will still need to pay some taxes but this would be on a much lower scale. Also, as the interest rates will go up, Debt funds and MIP are likely to have a lower return. We are pretty much at the bottom of the cycle and rates will go up in the next 1-2 years. Finally MIP will do very well if equities are doing well but therein lies the risk too.

In conclusion for the first category of people, use the following strategies:-

  • If you are OK with a little risk go for MIP and Debt funds.
  • If you are having lower risk taking ability but can wait 3 years or more go for FMP. Here too you can look at Dual Advantage FMP if some risk is all right.
  • In case you do not have 3 years and are looking at moderate but steady returns, look at Arbitrage funds.
  • If you just want to save and are not going to need the money for long, look at PPF.

What about category 2 people? Many financial planners will advise you to withdraw from equity and part the money in debt some 3 years before your goal etc. I have never found any sense in this as you might really be losing out on growth by such actions. At the same time being purely in equity is not a good idea either. You need to take some middle path which balances the needs of both growth and safety.

  • Higher risk takers can try Equity Savings Funds or Balanced Funds.
  • Moderate risk takers can try MIP, Dual Advantage FMP, Debt funds
  • Risk averse investors can try FMP, Liquid funds, Arbitrage funds

Note here that the higher risk options are more suited to 3 years plus time frame.

So, there you have it. Now that you know what to do with your money which is in bank FD’s, go ahead and stop those. You will soon thank me for having written this post !!

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Do you still invest in Fixed deposits? Need to change

As the readership of my blog and also the Facebook group has increased, I get a lot of queries from readers on how should they go about making a financial plan and their investments. There are also many requests from my friends and relatives in terms of reviewing their current investments and make suggestions on the same.

One of the things which surprises me every time I see it is the continued fascination that many investors still retain for Fixed deposits. Yes, I understand that they are perceived to be safe and highly liquid but from an overall financial perspective they really do not make any sense at all. Let me give you a few examples to illustrate my point.

  • A senior IT executive working in an MNC from Bangalore, had more than 30 lacs in FD. He said he was keeping it handy for his daughter’s higher education or marriage as the case may be.
  • Another IT professional from Kolkata working in TCS was having more than 20 lacs in FD. He said it was a combination of Emergency and contingency fund.
  • A cousin of mine, who is a Doctor with a private practice, recently approached me for suggestions on how he should invest 35 lacs that he got from FD maturity.

Note that these are people who are well educated, see TV a fair amount, read financial and other newspapers and are exposed to various financial blogs. If despite these they are investing in FD as a main channel then one can well imagine what most other investors from small towns or villages are doing. So while the Mutual fund SIP figures have greatly grown, the number of investors in FD and the amount of money they have in these deposits are still a mind boggling number.

But why am I saying that you should avoid FD in the main? Note that I have no issues if you have some 2-3 lacs in FD for Emergency purposes, though even that is not strictly necessary. Let me take the case of my cousin who had 35 lacs in FD till June of this year. 

  • The older FDs were at a higher interest rate so he was getting 9 % interest on them. 
  • His annual earning out of the 35 lacs was 3.15 lacs. All of this was taxable at 30 % as his other income is significantly more than 10 lacs.
  • The effective return was therefore only 6.3 %.

When the older FDs matured his banker told him that the best possible rates were 6.9 % in his bank. That would mean an effective rate of less than 5 %. It finally dawned on my cousin that it was really against common sense to renew the FDs. Even though he was told by his banker that other options are risky, he stuck to his guns about the renewal.

Are you like any of these examples listed above? Do you have a lot of money in FD and are paying taxes on the interest earned? If you are not paying taxes it is worse as the IT authorities are keeping a very close watch on all the FDs, even where a Form 15H or 15G has been submitted.

I think all readers are convinced by now that FD is really not a good idea. But the natural question then is, what do we invest in then? Will it be safe? What about liquidity? There are fortunately good answers to all these questions. I will write about it in the next post.

 

MF buying, index levels and 2017 outlook

To begin with, let me state that I was rather impressed by the readership of my last post as well as the comments posted. I have tried to respond to the individual ones but felt that it would be a good idea to address some common issues. Even before getting into it, let me state that I have no pathological dislike for SIP – in fact as a marketing professional, I feel that SIP has been an outstanding marketing success, so much so that many people even think that SIP is` the product they have invested in !! My only objection comes from the basic fact that SIP is a completely wrong way to buy equity as an asset class.

Let us now get to the objections. They are broadly as follows:-

  • SIP is easy for salaried people as otherwise they cannot say whether they will spend the money or not – I hope this issue is addressed through the real life case study that I shared.
  • People will find it difficult to keep track of index levels etc.
  • How do I know that Nifty will simply not keep climbing and reach 9000 and beyond levels, thereby not giving a chance for people to invest in MF.

In order to understand this, we will need to look at historical levels of the Nifty over the last 2 years or so. 

  • On February 7th 2014, Nifty was at 6023. This was the low point of the UPA and it started to rise from there.
  • On May 16th 2014, after the win of Modi and BJP Nifty hit a level of 7203. At that point most analysts predicted 9000 levels quite soon.
  • On March 5th 2015, Nifty hit a level of 8937. For the first part of Modi regime the Nifty had climbed almost non stop with only occasional blips.
  • On Jan 1st 2016, it was at a level of 7963 and kept going down to below 7000 on the day of the budget which was 29th Feb 2016.
  • Nifty ended 2016 at a level of 8185.

You can see from here that the Nifty has really moved nothing in the last 2 years. Yet we expect it to move by 2000 points or so and that too continuously? We might as well believe in fairies and ghosts 🙂

Coming to the current year, we clearly need to understand that the whole rise and fall of Nifty and other indices are largely FII money driven. With the US and some other markets doing well there will be tough choices for the FII brigade as to where they should put in the money. If the stability of the government and the policies that it espouses seem to resonate well in terms of BJP doing well and the economy showing high growth in terms of the corporate earning then Nifty may well climb again. 

So what is likely to happen? Right now, Nifty fair value is sub 8000 but it is very likely it may have a run up in the period till the budget. If it crosses 8600 or so that will be a major victory for the bulls and may push it up even beyond 9000. However, that is unlikely and I think Nifty levels will oscillate between 7900 and 8500 depending on the budget outcome. If BJP loses UP in addition to Punjab then 7900 is very likely to be breached on the downside. In any case, corporate earning in this calendar year will only improve in Q3 or so due to the demonetization effect and therefore Nifty will probably rise in the last 3 months of the year, given the revival of FII interest in our markets.

The route from today is thus likely to be as follows, 8300 – 8000/8500 – 7700/9000, 8400/9500. I personally think a 10 to 12 % return on the Nifty is quite possible from the start of the year when it was around 8185. Given this it is clear that you do not want to buy at levels of 8800 and 9000 and subject your investments to another year of mediocre returns. That is what they had in 2015 and 2016 when you bought at high levels through SIP and are now seeing much lower levels.

From my perspective I bought in 2016 at very near the lows of the year and avoided buying for most part till the very end. In this year too, I am hoping to buy in the sub 8000 levels of the Nifty and hopefully much lower. In order to do this we will need to track the Nifty over the months and have some idea about some directional trend.

The point is, even if you do not get any chance to invest and have the money in Arbitrage funds you will still make 7 – 8 %. This is more than what the Nifty has done over the last 2 years. In reality the markets will always give you opportunities and you just need to be aware of these.

Let me address this in the next post.

My successful stock picks – a sample

Of late I have been inundated with a lot of requests for sharing my stock portfolio, the price at which I bought the stocks etc. I think these come from two categories of people – some who feel they would be able to learn something from what I had done and others who want to check and probably tell me what I had done wrong and why. Be that as it may, I think both of these types will not get what the want from what I am about to share. These picks are mostly at an earlier point of time and has to be seen in the context of how I operate. However, they do provide some general learning, which may be of use.

Let me start with Mindtree, one of my stock picks in the IT space that I have been very happy with. The details are:-

  • I started investing in Mindtree in July 2007, as it looked to be a rather promising Mid tier IT company. I knew some people in charge there and was confident that the company will do well in the long run.
  • My starting price was 663 and the stock started correcting immediately thereafter. Between 30/7/2007 and 1/11/2007 the stock went down from 663 to 463 and I made a total of 6 purchases each for the same number of shares.
  • My final purchase was after the turmoil of 2008 at a price of 318.
  • After the split my shares doubled and the price was 1500 plus . This was a multiple of 4+ on the invested price. Subsequent to another bonus the CMP is nearly 600 now.
  • I am pretty sure that over the next few years a price of 1000 or so is very achievable for the stock.
  • Mindtree is a good dividend paying company and that is separate from the above.

The next company is the Pharma company Dr Reddys Labs. The details are:-

  • I wanted to have a few Pharma blue chip companies in my portfolio and DRL was an obvious choice.
  • Like Mindtree, most of my investments in DRL were between July 2007 and March 2009. The acquisition price started at 632 and went down to 379 for my last purchase. Average cost of acquisition was 540 Rs.
  • The CMP of DRL today is 3012 Rs and I expect it to go up to 5000 plus in the next 2-3 years.
  • The gains in the stock are of the same scale as those of Mindtree.

The next company is the Automobile market leader Maruti. The details are:-

  • I wanted to have Auto sector represented in my portfolio and Maruti was an obvious choice here.
  • My first purchase was at 741 Rs in June 2007 and the last one was in October 2008 at 515 Rs.
  • CMP of Maruti is nearly 5000 today and it is very likely to cross 6000 in this FY itself.
  • My investment today has multiplied more than 7 times.
  • On an average I get about 20000 Rs dividend per year from this stock.

The next company is also from the Automobile sector and it is M & M. the details are:-

  • I chose this as it complemented Maruti in the commercial vehicles space.
  • I started buying M & M in March 2007 and kept buying till January 2009. My starting point was 723 Rs and the last price I bought it for was 263 Rs. You can imagine the kind of bargain there was, but there were hardly any takers!!
  • After the split adjustment, the current average price is 286 Rs
  • CMP of the stock is 1243 Rs and expectations are for it to reach 2000 Rs sometime in 2016.
  • My investment in this has again multiplied nearly 5 times.
  • This again is a good dividend paying stock, normally declares dividend every quarter.

L & T was my first CD bought way back in 1992. See how it has done so far:-

  • I got 75 shares at the price of 60 Rs each in 1992. This went through bonus/splits etc and today I have 225 shares.
  • This is after I sold some shares in 2007 for 75000 Rs.
  • CMP of L & T is 1518 Rs today and my total realization on a 4500 Rs investment is more than 4 lacs.
  • This is exclusive of the good dividends that L & T normally announces every quarter.
  • There will also be a lot of value unlocking in L & T shares when some of it’s subsidiaries get listed in 2016.

I could go on and list many more but you would have got the point. Of course, I have had spectacular failures too – some of them are Kingfisher Airlines, Reliance Infocom, Teledata Informatics etc. Several of the Infra companies are also not doing well at all but that is a long term play and I am still hopeful of them succeeding.

Many people ask me why I did not continue investing in stocks post 2009 in a significant manner. Firstly, my priorities got focused on my job as CEO of a global company and on my children’s studies as they were getting to a stage where I had to think of their college admissions. Secondly, I thought I had built a good enough portfolio and now it really had to be maintained over a long term. Thirdly due to my thoughts of giving up my corporate career, I needed to invest more in MF and debt products. All such investments have happened since 2008 onward. Finally, after we settled down in Hyderabad my wife got into building a portfolio of her own, though she only holds stocks for short term. Now, I really act as an adviser to her, though it is not easy for us to agree on what price one should buy or sell a stock.

My advise to all investors who are still wondering whether to start with stocks or not – go ahead and begin building a good portfolio over a period of time. Even if 50 % of your picks are successful you will gain much more than any other mode of investment. I absolutely know this in my case and I am sure it’ll be true for you as long as you choose good companies to invest in. No great tips or analysis of ratios is needed – just start with the market leaders first.

PPF – what should be the strategy now?

Readers who have been with the blog since it’s inception will know that PPF is one of my favorite debt instruments. New readers may want to read the post on Why you must invest in PPF. As this post attracted a lot of feedback and comments, I had to do A follow-up post on PPF. Finally as readers wanted to know how I had used PPF for my own financial planning, I did the final post on PPF – A personal perspective. Now several people have asked me what is likely to happen to the PPF rates in the current interest rate regime and whether investing in it is still a good idea or not.

Before we get to the strategies of how to deal with PPF, let us first look at the historical rates of PPF over the last 30 years. It will be interesting to see that, in general, PPF rates have tended to be sticky and except for a brief period when the NDA government tried to link it to prevailing interest rates in the market, changes have been fairly rare. Look at the data:-

  • Between 1986 and 2000 the rate was fixed at 12 %
  • Between 2000 and 2003 it went down every year and dropped from 11 % to 8 %
  • Between 2003 and 2011 the rate remained at 8 %
  • Since 2011 the rates have not changed much and the current rate is 8.7 %

It is important to note that with the RBI reducing rates sharply of late and recommending that the small savings rate be bought in line with the bank FD rates, a change in the PPF rates is imminent. Politically the NDA formation believes in aligning rates of such instruments to the market rates, as they demonstrated the previous time. I fully expect the rates to come down to 8 % shortly and maybe even 7.5 % in the next budget.

So what should a new investor do now? I believe that despite the rate cuts that will definitely happen, PPF remains the best debt instrument that you can invest in due to the EEE tax treatment that it gives you. Remember that you are getting only about 7.5 % from Bank FD and and after taxes it will only be a little more than 5 %, if you are in the highest tax bracket. You can invest in debt funds where the returns will improve with falling rates, but remember that with lowered inflation the cost inflation index will also increase less and the effective taxation of LTCG in debt funds may increase. Also, PPF is a long term instrument that builds investment discipline. But most importantly, over a period of time it builds you a suitable corpus that you can tap into at the time of your goals. should the time not be a right one for redemption of equities due to the markets doing badly. This is really the biggest risk in equity investment and PPF gives you a cover for it. My suggestion to all new investors will therefore still be to open a PPF account as early as they can and maximize their contribution there.

As far as existing investors are concerned, the choice is really simple. You should simply continue investing in it without worrying too much about the rates. You are doing this as part of a financial plan and need to stick with it. In the long term these changes in interest rates will keep happening and, despite the inevitable lower returns, PPF remains the most attractive instrument for the reasons mentioned earlier in the post.

In summary, do not get flustered by the coming rate changes of PPF to 8 % or even 7.5 %. Continue with it if you are an existing investor and open a PPF account now if you do not have one yet. You will never regret it, I have not in 21 years.

The changing landscape of debt investments

While all the noise and excitement is normally about the stock markets, I think it will be fair to say that most investors in India historically have always depended on debt for their short and long term investments. Whether you look at the number of investors or at the financial assets invested, this conclusion is an inescapable one. Even for investors focused on equity, the almost automatic investments in FD, RD, PPF / NSC and of course PF is a reality. This is also a good thing as I am a staunch believer in having a solid bedrock of debt investments for giving stability to any portfolio.

In the present investment climate of India, the significant changes that are happening to the debt instruments and their potential returns have almost gone unnoticed. It is important to understand the changes to the landscape and more importantly, what will be the impact on the investors who are investing primarily in debt instruments. Before we look at the various classes of instruments, we need to understand the main reasons for the changing scenario.

As most of us know, returns from debt instruments have always been closely linked to the prevailing inflation rates in the country. Obviously, if the inflation is high the returns from such instruments also needed to be high, in order to remain attractive for people to invest in them. While inflation figures and interest rates have fluctuated over the last few decades, in general they have remained high. I remember the PPF rates used to be 12 % when I started investing in it more than 20 years back and went down to 8 % at it’s lowest point. Interestingly our financial institutions are quicker in lowering rates when needed and quite sluggish in raising it when the inflation gets higher.

Now all high inflation economies will get control over inflation as time goes by. Developed nations have lower inflation and going forward it is quite possible that we will be looking at inflation rates lower than 5 % before long. As the RBI Governor has signaled, it is going to work in closer coordination with the government on the policy rates. This essentially means the returns from debt instruments are going to change. What is more, with inflation being tamed, the changes in the returns may well be more permanent in nature than what we have seen earlier.

Bank FD s are always the first product to have the rates revised and this has already happened. Most banks are offering rates lower than 7.5 % now and even for senior citizens the highest rates available is 8.4 %. My parents have some FD s started a year back and they were getting 9.5 % in those. It is quite possible that over the next year, as policy rates go even lower with inflation declining, the FD rates will drop to below 7 %. This will be quite significant as I cannot remember the last time when these rates were below 7 %.

The other important impact will of course, be on the rates of the small savings schemes such as PPF , POMIS etc. The RBI has recommended that returns from such schemes be aligned to the bank interest rates. While this will be politically a tough thing to carry out immediately, over a period of time this conclusion is an inevitable one. The PF rates again will quite possibly be revised downwards, though even here it will be a difficult decision to implement.

What about debt mutual funds? Well here, the returns impact will depend on the type of funds we are talking about. Liquid funds and MIP etc will have lower returns. Investing in FMP seems to have very little point now. Gilt funds and other debt funds will have higher returns in a declining interest rate cycle and they can be invested in. However, with lower inflation we will also have a dampening effect on the Cost Inflation Index. This will essentially mean that the effective taxation on the capital gains will be more when you redeem your debt funds. This is too complex to explain in the context of this post, I hope to write a post on this later in the week.

The above would have shown you that there aren’t a whole lot of options as far as decent returns from debt instruments are  concerned. What should be the debt strategy then? Let me write about this in my next post.

How do you meet your goals with illusive equity returns?

One good thing about writing the blog is that I get to interact with different kinds of people. Some are new and keen to learn, others have been investing for some time and are looking for specific inputs, yet others are more interested in challenging what I have to say. I am pretty ok with the last as it gives me a good chance to increase my own knowledge. One of the aspects that I have debated with many people is on the nature of equity returns and it worries me that most people still do not get it in entirety.

To illustrate the point let me ask you this – if you have been investing in equity through Mutual fund SIP route for the last 5 – 7 years, what would be your XIRR today on those investments? Given the levels the markets reached yesterday, it is a fair bet that for most funds the XIRR over the whole period would not be in double digits. However, only about 2 months back when things were looking infinitely more positive, the talk would have been about 15% XIRR and putting all money into equity etc. It may be a scary exercise but check out how your portfolio value has fallen over the last few weeks itself. Of course, most advisers will tell you to continue your investments and say that it will recover its value over time.

The simple truth is no one can predict the markets in the medium term and the long term can be really long. If you have started your SIP in the halcyon days of May 2014 when the government change was there, it may take a fair bit of time for your portfolio to get out of the negative XIRR zone. This is not to say that we should stop doing SIP, in fact quite the contrary as SIP really works well in exactly the type of market we are having today. What matters though is that we take care to understand the illusive nature of equity CAGR and plan things accordingly.

One of the simple things to understand is what kind of returns should we estimate from equity investments when we are making a financial plan and investing for our goals? I have always felt that 12% is probably the magic figure irrespective of what the markets are indicating currently. A higher figure is possible but difficult to sustain and at a lower figure you will need to invest huge amounts for your goals. The other thing to understand is that this money may really not be available when your goal is at hand. Suppose you wanted to but a car costing 12 lacs today and have been doing a SIP for the last 5 years. Today when your goal time frame is reached, your SIP value does not match up to this figure. 

The so called experts will tell you that you could invest in debt for a 5 year goal, or that you could redeem equity and transfer to debt 3 years before your goal etc. With due respect to all and certainly no malice, I really feel these suggestions are not worth the paper they are written on. Due to the illusive nature of equity returns it is really impossible to time these strategies and if you are trying to do this, it is really as bad as timing the markets. So what should you be doing then?

We need to embrace the uncertainty of equity returns by doing these few things:-

  • Bank on equity only for a goal if we are prepared to be flexible on it. So in the car example, your goal should be ” I want to buy a car in 5-7 years time and will invest 10000 per month assuming a return of 12%”. Aim for your goal in 5 years but be prepared to wait longer if need be.
  • Most of your goals may not have such in built flexibility. In such cases you can over estimate your goal amount, see to it as to how your goal can be met through debt investments you have or consider mobilizing money through short term loans etc.
  • If you have one time money available for something that you plan to spend in the future, consider doing it today. Let us say you want to go on a family vacation in 5 years that will cost you 6 lacs. Now you can do a SIP for that with an associated risk that things may not work out when the time comes, or you can put 3-4 lacs in debt and hope it will grow sufficiently in 5 years to get close to the amount. A much better way will be to stretch yourself financially, go and enjoy the vacation today with some flexibility and then keep investing for your other goals.

I hope most of you got the point of the post and would be glad to have feedback. In the next post, I will talk of a specific example of children’s education as a case study and show how we can manage things better.

I am happy to see many people have got started out here. Also, become a part of my Facebook group Market Musings where a lot more is discussed on the general market situation and also individual stocks.

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