Assured return schemes: Future's bright

Rationalisation loomed large over the assured return schemes segment in the year 2005. Omission of Section 80L (which entitled investors to tax-free interest income) and restrictions on investors eligible for participating in small savings schemes were some of the events that defined the segment in 2005. With declining returns and trimmed down tax sops, investors clearly had little reason to cheer.

Come 2006 and the segment pulled off a turnaround of sorts. With interest rates on the rise, fresh issues from the fixed deposit segment offered attractive returns. An example will help us better understand the same.

Fixed Deposits from HDFC Limited

An investment in a 1-Yr FD (with a cumulative option) at the beginning of the year would have fetched a return of 6.25 per cent per annum. The yield on the same FD now stands at 7.75 per cent per annum. This provided a much-needed breather to risk-averse investors.

In this year's budget, the gamut of instruments available for deduction under section 80C was enhanced with the inclusion of 5-Yr FDs from scheduled banks as an eligible investment avenue.

On the other hand, investments in bonds issued by NABARD, NHB and SIDBI were put outside the purview of Section 54EC investments (for the purpose of claiming exemption from long-term capital gains tax). Consequently, the scope of Section 54EC investments now stands restricted to bonds from only two institutions i.e. NHAI and REC.

Investors in assured return schemes heaved a sigh of relief as the Finance Minister chose to maintain status quo on the much-dreaded "EET" (exempt-exempt-taxed) in the annual budget. As a result, for now, conventional assured return avenues like Public Provident Fund, among others continue to offer tax-free returns on maturity.

What investors can expect in 2007

Contrary to popular belief (which suggests that interest rates in the economy have plateaued), we expect interest rates to rise even further. Hence investors would do well not to lock themselves in long-term assured return schemes at this stage. In such a scenario, they will not be able to capitalise on any further uptick in interest rates.

We recommend that investors should add to their portfolios short-tenured fixed deposits. Similarly variable rate FDs (wherein the coupon rate is reset in line with a designated benchmark rate at regular time intervals) is another option.

Finally, Fixed Maturity Plans albeit not an assured return investment avenue, can be considered by investors desirous of clocking better returns at higher risk levels. FMPs operate on the proposition of offering returns with a "reasonable" degree of certainty, despite being market-linked investment avenues.

For investors, whose portfolios are dominated by conventional assured return schemes like FDs and bonds, the presence of FMPs could aid from a diversification perspective.

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