If you're looking to put away some money for the near term, you should check out short-term plans (STPs). These plans have on an average delivered returns of over 5 per cent in the last one year and have managed to outperform income and gilt funds on a risk-adjusted basis.
In fact, over the past three months, these schemes have returned around 6 per cent. Taking advantage of the steepness of the yield curve at the shorter end, fund mangers buying into higher yielding, longer maturity corporate paper, to improve returns.
The relatively low volatility of portfolios has been possible because fund managers have generally chosen to stay away from government securities, given the rising interest rates.
Observes K Rajagopal, CIO, Reliance Mutual, "Since most of the portfolios have a very low component of government securities, or nothing at all, the volatility, has been contained and the schemes have done consistently better than liquid and floaters." The volatility of most portfolios has, in fact, reduced.
Observes G Ramachandran, head, investment advisory services, ICICI Bank, "The average volatility of STPs has fallen from a peak of 0.4 per cent in January 2005, to 0.31 per cent in June."
Also, most fund managers have maintained a low maturity for their respective portfolios. While the average portfolio maturity saw a steady decline till January 2005, since then the maturities have increased gradually to take advantage of higher coupon securities, with marginally higher tenors.
In June, there was a sharp increase in the maturity to 1.36 years, since some fund managers believed the outlook for the debt market was improving.
The average maturity at the end of June ranged between 430 days and 690 days. The Reliance STP had a maturity of 457 days, while the Templeton STP had a maturity of 677 days. Most fund managers, however, prefer to keep their maturities around 1.25 years.
What fund managers have cashed in on is the steepness of the yield curve at the shorter end. The major part of the corpus has been allocated to corporate paper, such as fixed or floating rate bonds,
Commercial papers and certificates of deposit, issued by banks. A marginal amount may be parked in bank fixed deposits. While most of the paper would have a maturity of less than two years, fund managers are also parking some of the funds in slightly longer term paper.
That's because currently the spread between one-year corporate paper and two or three-year papers is large.
For example, the yield on one-year paper is around 5.85-5.9 per cent, while the yield on two-year paper is 6.3-6.4 per cent. For three years, it is as much as 6.8 per cent.
The reason for this is the expectation that interest rates will rise. In fact, many in the money market believe that the central bank will raise the repos rate in October, triggering an increase in rates across the system.
Explains Binay Chandgothia, deputy CIO, Principal PNB AMC, which has bought into some of this longer maturity paper, "If the yields in the system move up, the portfolio will not underperform and if yields fall or even remain flat, these higher-yielding papers would give the porfolio a kicker."
Says Rajagopal, "At times we buy even three-year paper, but we ensure that the maturity of the portfolio does not go beyond 1.25 years The 1-3 years maturities are delivering the best value and if rates go up we will drop maturities. While most of the money goes into AAA-rated paper, some funds do have an exposure to AA+ and lower rated paper.
Funds have also parked some portion of the portfolio in floating rate instruments, thereby, containing risks.
Says Ritesh Jain, fund manager, Kotak AMC, "FRBs are a good hedge because on a normal basis they give a higher current yield of around 6.3 per cent, the coupon is reset every six months and if rates were to rise, one could get the benefit of capital gains. It also makes sense to buy into papers that have an interest reset in October, so one is protected to that extent."
Moreover, currently there is good trading potential in paper at the shorter end. Though there is enough supply of paper -- CDs of banks, for instance, are available at around 5.85-5.90 per cent --- there's also a huge corpus of liquid funds that are looking for paper with maturities of less than 12 months. In fact the corpus of liquid funds is almost 15 times that of STPs.
Observes Jain, "We buy into 14-month paper and when the maturity is down to less than 12 months we sell them to liquid funds and book the capital gains. The yields may move down but the capital appreciation is high."
According to G Ramachandran, STPs remain a good option in the current scenario provided investors are willing to hold on for at least six months. "The running yield on the portfolio has gone up to 6.5 per cent," he observes.
Chandgothia confirms that the current yield would range between 6.25 and 6.5 per cent. According to Dheeraj Singh, head, fixed income, Sundaram Mutual, "The flexibility that fund managers enjoy in managing the duration of these schemes, makes them attractive, provided you hold on for at least six months." Singh believes that going forward, one can expect a return of 6.5 to 7 per cent.
Adds Rajagopal, "We expect STPs to continue to outperform liquids and floaters in the near term and are recommending them because, regardless of the outlook on interest rates, the volatility would be contained to the minimum."
So if you're looking for a slightly better return than that on floaters, STPs may be a good idea even if the expense ratios for the scheme, which are around 65 basis points, are slightly higher than those for floaters and liquids.
