FMPs good bets during stock market downturns

WITH equity market performance turning from bad to worse in the present calendar year, the focus has definitely shifted to debt market instruments, which often provide steady and regular stream of income for investors. One such debt instrument that has been hogging the limelight in recent times is the growing popularity of fixed maturity plans (FMPs).

Popularity of FMPs is growing steadily, as more and more investors are becoming aware of the benefits of investing in these plans, particularly in comparison with other popular alternatives, especially, bank fixed deposits. Matter of interest: A growing number of investors from retail to companies and high net worth individuals (HNIs)) are parking their funds in FMPs to safeguard their returns at a time when the domestic equity markets are taking a pounding amid turbulent times in both global and domestic markets.

FMPs are 100 per cent debt-oriented plans, and, therefore, it is unfair to compare them with equity schemes, whose performance is primarily dependent on stock market movements. Also, FMPs are suitable for investors who are risk-averse and conservative, and whose time horizon is short term (six months to 24 months).

On the other hand, equity schemes are suitable for investors who have a time horizon of more than five years, and who are ready to take limited risk with high return potential and also have the patience to wait for at least three to five years.

It is very good to see retail investors pouring funds into FMP products, which traditionally are an investment hot-bed for companies and high net worth individuals. With interest rates set to fall by the second half of 2012, we have seen fund houses launching long-duration FMPs in recent months.

FMPs are like fixed deposit with better taxability.

FMPs are closed-ended funds but they do not have an easy exit option, which fixed deposits have. Therefore, investment in FMPs is similar to investing in fixed deposits.

Stable yields: Investors locking their funds in FMPs can hope to earn prevalent interest rates in the economy, which are broadly in the range of 7 to 9 per cent per annum. For FMPs, with duration longer than one year, the returns are taxed at 10 per cent or 20 per cent after indexation, whichever is beneficial for the investor.

Thus, returns from FMPs are very tax efficient, and, therefore, these instruments are comparatively much better options compared with bank fixed deposits for a similar period, said Chopra.

Investment in short-term FMPs tend to be good investments in a rising interest rate cycle because investors can avoid volatility of an active bond fund and at the same time, benefit by rolling over investments at subsequently higher rates. As the equity market gets volatile, investors seek more assured returns, and, thus, money flows into fixed deposits and debt funds, including FMPs.

Typically, the fund house fixes a `target amount’ for a scheme, which it ties up in formally with borrowers be fore the scheme opens.

Since the fund house knows the interest rate that it will earn on its investments, it can provide `indicative re turns’ to investors.

Investment instruments: FMPs usually invest in certificate of deposits (CDs), commercial papers (CPs), money market instruments, corporate bonds, and, sometimes, even in bank fixed deposits.

At the peak of the rate cycle, it is beneficial to invest in market fixed income instruments or active income funds to benefit from capital gains on bonds as yields/market interest rates fall and bond prices rise. So, FMPs though remain attractive, the total effective re turns on bonds/debt funds could be higher.

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