Monday, November 7, 2011

Idle cash better off in liquid funds despite savings rate deregulation :

Last week, I wrote about the RBI's decision to free savings bank interest rates. From the bank customers' perspective, this news is irrelevant. No matter how much or how little money you keep in a bank savings account, the additional income generated will be too small to be relevant.

In fact, if you feel you happen to need a safe source of reasonable returns from a savings medium that is not locked-in for a fixed period, then you shouldn't be looking at a savings bank account at all. If you find yourself getting excited by the 6% savings returns that some banks have started offering, then you're doing something wrong. What you actually need are liquid funds. 

 Liquid funds are widely used by companies and the more affluent investors, but are underutilised by retail investors. There's no reason for this. Liquid funds fit in very neatly between fixed deposits and savings deposits.

Currently, liquid fund returns are in the range of 8.5% to 9% per annum. This is substantially higher than savings accounts but lower than FDs. Compared to savings accounts, which offer instant liquidity, liquid funds offer one-day liquidity. Again, this is hugely better than FDs, but somewhat longer than savings accounts.

From among the options for high-safety savings instruments, the way I think of liquid funds is this: Savings accounts offer the best liquidity. FDs offer the best returns. Liquid funds offer the best compromise. In most cases, that turns out to be the best choice.

One-day liquidity also works in a very simple way. Liquid fund investments have a daily cut-off time of 3 pm. If you invest in a liquid fund before that point, your money will be invested on that day's NAV (which comes later in the day), and your returns start from the next day.

When it's time to redeem your money, you need to put in the redemption request before 3 pm. The redemption value will be calculated as per that day's NAV and the money will be credited to your bank account the next day. What makes the whole thing simple is that with most banks and most mutual funds, the whole process can be completed though self-service and online.

Once you register with a fund for online transactions (and assuming that you have a net-banking account), there's no need to fill up a form or interact with anyone personally.  

You can move money from your savings account to a liquid fund when you can spare the money and move it back when you need to withdraw it. Another great convenience of investing in a liquid fund is that choosing one is a vastly simpler exercise than choosing other types of mutual funds. The safety jacket into which Sebi's regulation has put all liquid funds means that a vast proportion of these funds are practically identical.

Their returns are quite close to each other. All you need to do is to visit a website like and cursorily compare performance and you'll easily be able to choose a fund - there's no need for any great analysis. Effectively, these are not funds but replacements for banking products.

Source : ET 

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