We all have heard this famous saying from our elders and well wishers "When one door closes another opens". But the sad part is that we always look at the closed door and cry instead of looking around and finding the new opportunity available. This famous saying also applies to investment world. The budget of 2014 made debt funds long term after a period of 3 years instead of previous clause of 1 year. This single amendment changed the entire investment pattern in debt/MIP funds and FMPs and we have seen downfall in MIP inflow and new FMPs and also large withdrawals due to tax liability till 3 year. So is there any other option available which is more tax friendly. The answer to this is newly launched equity income fund and equity savings fund category. I will try to decode the equity savings fund in this article.
Equity Savings Fund is a good option for conservative investors with balance of equity and debt. This Fund is placed between MIP/Equity income funds and Balanced funds. MIP/Equity income funds invest up to 25% in equity and the balanced funds invests 65% or more in equity. There was no option available for the investors between MIP funds and balanced funds for equity investment which gives tax advantage after one year. This fund will help investors take the middle position as it invests up to 40 to 50% in equity and the balance investment goes into arbitrage and debt funds.
The equity savings fund is classified as equity fund as it invests 65% or more in equity category including arbitrage. The arbitrage means buying in cash market and selling the same quantity in future and option market. So if any fund does arbitrage means there is no equity risk as the equity position is hedged in f & o segment. The income if any in this fund will be treated long term capital gain after a period of one year and will be tax free. Tax planning is one of the most important aspects of financial planning. In investment you should look at post tax returns and not gross return. This fund has added advantage as the entire debt return is also tax free as this is classified as equity fund.
According to me this category is purely a balance between equity and debt. Balancing in investment is also important to get the desired result. One of the best ways of balancing in investment is proper asset allocation. Further it is not only important to invest according to asset allocation but it is equally important to rebalance the portfolio periodically. The rebalancing happens automatically in this fund and the same gives you added advantage when the markets are too volatile. As per objective of the scheme which is pre decided fund manager can't invest more or even less in equity than decided percentage at any given point of time. So when the markets are high the fund manager has to compulsory sell equity to maintain the maximum level and likewise when the markets are low fund manager has to increase the equity investment to maintain the minimum level of equity investment. The process is continuous which a normal investor can't do because of lack of knowledge and expertise. Rebalancing is the process of restoring your portfolio back to its original asset allocation.
Surely this product is not meant for one year time horizon even it gives tax free return after one year. Equity investment always is risky investment and 40 to 50% equity investment can give you negative return if your time horizon is less than 3 years. The equity savings fund is suitable for those whose time horizon is 3 years plus and can extend for another one year if needed. I normally don't recommend any fund which has not completed 3 years time but this new category can easily be compared by averaging returns of MIP funds and balanced funds.
The category return of aggressive MIP fund for 3 years is around 13% and for 5 years return is around 10% whereas the category return of balanced fund for 3 years is around 18.50% and for 5 years return is around 12%. Even we take conservative figures of 5 years average then the returns come to around 11% p.a. tax free. So this fund can give you 3 to 4% more if you take calculated risk and can absorb the volatility in between. The returns in equity savings funds or any other mutual fund scheme are not guaranteed as the funds are market linked. Proper home work always help us to take informed decision.
(Authored by Pankaaj Maalde, Certified Financial Planner)
