Should you break a fixed deposit to buy a debt mutual fund?

I have missed a lot of Suggest a Topic comments in the past month or so and I’m going to try and address all of them in the next few days.

The first one is from Colin that talks about breaking a fixed deposit and getting into a debt mutual fund. Here is the comment for context.

Colin January 9, 2013 at 9:26 pm [edit]

With interest rates falling, the temptation to move into long term debt funds rather than FD for high tax paying citizens is becoming very compelling. How does one evaluate whether breaking an FD and paying penalty with low rate of interest makes better sense than waiting for FD to mature. Given that a part of the interest is taxed at 30%


Let me talk about some parameters that I would like to keep in mind while making this decision.

1. Penalty and reduced interest rate: When you break a fixed deposit, you get penalized in two ways:

  • Usually a longer maturity fixed deposit gets a higher interest rate and lower one gets a lower rate, so when you break a 5 year fixed deposit in one year, you will get the reduced rate for that year. So, you have to consider what’s the reduced rate you will get because of this.
  • Then there is a penalty which is usually one percent on that reduced rate so you will get a lower rate on the already reduced rate which is the return you will now get.

2. Tax Rate: Take the above rate of return, and tax it at 30% if you are in that bracket, and see what’s your net return. If you are in the 10% bracket or the 20% bracket then I would say breaking the fixed deposit under any condition may not be a good idea because debt mutual fund returns are also taxed at 10% plus if they are long term and at your regular tax rate if they are short term capital gains.

Doing the above two steps will give you a sense of how much money you will get from your fixed deposit now and you can obviously compare that with what you were likely to get if you don’t break the fixed deposit.

3. What is a reasonable assumption for a debt fund return? This is perhaps the most difficult question because if you have a 5 year fixed deposit and you are breaking it then you should have a good level of confidence that in the next five years your debt mutual funds will outperform your fixed deposit. A look at Moneycontrol page for debt funds tells us that in the last 3 years annualized returns of the best debt funds across every category has been 7 – 10%.   With interest rates coming down there is a lot of interest and expectation that debt funds would do better than this but I don’t know how much better and I certainly wouldn’t be very optimistic that they can do a lot better than this.

These are the three things that I would keep in mind, and I don’t particularly like the idea of breaking an existing fixed deposit to do this but that’s just a personal opinion. It might make sense for some one in the higher tax bracket who has all their money tied up in fixed deposits.

Please leave a comment to let me know what you think.

This post was from the Suggest a Topic page. 

Answers to 5 questions about the Repo and Reverse Repo Rate

The RBI released its Quarterly Review of Monetary Policy today, and brought down the Repo and Reverse Repo rate to 7.75% and 6.75% respectively effective immediately.

Monetary policy is what’s used by the central bank to influence the supply of money and rate of interest in the economy. RBI announces its monetary policy every quarter, and this quarter it has decided to bring down these two interest rates by 0.25%. If you are not familiar with what Repo and Reverse Repo is then Shiv did an excellent job of defining these and other important terms before the last announcement. (Read: A look at some key terms used in RBI announcements)

Mr. Ramamurthy posed some great questions about this in the Suggest a Topic section, and I thought I will do a quick post trying to answer these questions, but if you wanted to read about today’s policy announcement then Business Standard does a great job of summarizing them.

First, his comment:

Ramamurthy January 29, 2013 at 10:45 pm [edit]

The lending rate at which RBI lends to other Banks is now 7.75%.I have few questions here.
1. How does RBI ensure that the money lent will be repaid by the Banks?
2. Is there a limit up to which Banks can borrow money from RBI?
3. Is it only the last resort or can Banks borrow money as a matter of routine even when there is no genuine need?
4. Can the money borrowed be used by Banks for purposes other than lending to their customers?
5. Can the Banks borrow and use the money for say investment purposes?


Let’s look at these questions one by one.

How does RBI ensure that the money lent will be repaid by the banks?

Repos are collateralized agreements which means that the banks borrowing from RBI need to come up with a collateral if they want the money, and this collateral is Government of India securities in the Indian context. So, that’s a pretty good collateral in case the banks default which must be a really rare event and I certainly don’t know of an occasion where an Indian bank defaulted on their Repo agreement with RBI.

Is there a limit up to which Banks can borrow money from RBI?

Since you need collateral in order to get into these agreements, and this collateral is only GOI securities, it stands to reason that a bank can’t borrow more than the collateral it has.

Is it only the last resort or can banks borrow money as a matter of routine even when there is no genuine need?

Repo and Reverse Repo auctions are very common events which occur daily and they are conducted by the Liquidity Adjustment Facility (LAF) of RBI. These are routine auctions that helps bank manage their day to day liquidity through these instruments. To that extent, I’d say that banks borrow money using Repos as a matter of routine but there is a genuine need for this routine.

Can the money borrowed be used by banks for purposes other than lending to their customers?

At some level, all money borrowed by banks is for lending to customers, but in the case of Repos and Reverse Repos, their main objective is to manage the bank’s day to day liquidity as they are mainly instruments of overnight borrowing and lending.

Can the banks borrow and use the money for say investment purposes? 

Repos and Reverse Repos are loans of a very short term maturity and as such their primary purpose is a bank’s liquidity management and banks aren’t looking to invest this money by buying shares or bonds of Kingfisher Airlines for instance.

One other thought

The RBI sets the Repo Rate and then the Reverse Repo rate is always one percent lower than that. There are daily auctions under LAF (Liquidity Adjustment Facility) and RBI has a daily press release about the results of the auction. You can take a look at these at the RBI website to see how much was borrowed or lent, and usually the amount of borrowing far exceeds the amount of lending.

CIBIL Contest Winners

I’m delighted to announce the CIBIL contest winners today. This contest had the most participants that we’ve ever had, and it’s great to see that there is so much awareness among readers about the need and use of a credit score.

CIBIL had sent me the name of these three winners earlier today, and they haven’t been informed of it yet. I will send the email addresses of the readers to CIBIL and they will contact you directly for the next steps. If for any reason you need to contact me about this then you can leave a comment or use the Contact form to send a direct email.

CIBIL Winners

Here are the three winners:

1. Jayachandran
2. Kapil Dev Tejwani
3. Balamurugan Balasubramanian 

Congratulations to all three of you and thanks to everyone else for participating.

Mutual Funds eligible for RGESS Investments

I wrote about the SBI RGESS fund and IDBI RGESS fund some time ago, and one thing that I wasn’t clear about is whether existing funds that satisfy the RGESS criteria will make their investors eligible for deduction or if there is any condition that prevents them from being eligible.

Nothing I read said they were ineligible, but I was wondering about this since I felt there is no reason for mutual funds to issue new funds when existing funds serve the exact same purpose (other than perhaps publicity that new fund attracts).

Rahul Chindaliya shared a link which explains how many existing mutual funds are eligible for RGESS exemption, and I also found that Religare has a page that lists out their RGESS eligible funds, and their Nifty ETF is listed there.

This should imply that all other Nifty ETFs (Also see: Comprehensive list of all Nifty Index funds and ETFs)  are also eligible for RGESS exemption, and if you so desire you invest in one of the existing ones instead of going for a brand new fund. This also means that existing funds that invest in other RGESS compliant securities are eligible as well.

I also came across an article in Livemint today which states that the government can expand the scope of RGESS and include more than just first time investors. If they were to do that in the next few days then that will mean that the scheme suddenly becomes interesting to a lot more people.

If you have been investing in Nifty ETFs or any of the other RGESS eligible securities this fiscal and you are a relatively new investor then I’d suggest you keep a track on this space because you might suddenly find that there is an exemption that you can take advantage of that didn’t exist before.

Hedgies argue to translate If but end up sorting socks

A quick word about the CIBIL contest before we move on to the links, I have forwarded the participant list to CIBIL and we should be in a position to announce the winners by Wednesday next week.

On to the links now, CNBC US hit gold today when two billionaire hedge fund managers fought with each other on TV for about half an hour, and this is like no argument you have seen before.

If you haven’t already seen the video, here is a link to a NYT piece with the video embedded and a little background on the story about Bill Ackman and Carl Icahn.

Apple’s stock crash was another interesting thing that happened this week, and I felt Roger Nusbaum was the only person who said anything of value on this topic. It is relevant to investing from an Indian perspective as well, specially if you own individual stocks.

Rohan Doshi shared a story on last weekend’s links post about how the NYSE was bought in one shot, and I thought that was a good read as well.

Closer home, FIPB clears IKEA’s 10,000 crore investment proposal. 

Hemant and Anil Kapila write about the best tax saving mutual funds of 2013.

Shyamendra Solanki does a wonderful Hindi translation of Rudyard Kipling’s ‘If’.

Finally, the mathematically most efficient way to sort socks.

Enjoy your weekend!

5 ways to get share investing ideas

Harinee asked me to share some thoughts on analyzing stocks, and I told her that my ideas would probably disappoint her because they are so simple but in any case, I’m writing some thoughts on the first step of investing which is akin to generating leads or just finding out which stocks should be researched further to see if they make a good case for a long or a short.

I would say there are five main ways that I discover which stocks to invest in, and I’m listing them here.

1. Great products: In the long run, behind every great stock, there is a great company that’s selling great products or services so whenever I see a product that wows me I try to find out if the company that makes it is listed and how big is this product to their revenues. Sometimes others give you the hint like when your sister in law yells at you for buying the wrong brand of glue. That should surely pique your interest to see if Pidilite is the one making it, and are they any good at making other great products that bring in profits.

2. An interesting theme: While the first point was about bottom up investing, this one is about top down investing. I’m a big fan of 3D printing and am always very interested to see if there are any companies in this space that can be invested in. So, this is an example where you think of themes or sectors first and then see if there are listed companies in those sectors. Drones is another theme I’m currently interested in as the Obama administration seems to have shown that they are the way to go and I feel other countries are going to catch up on this. I don’t think there are any companies that you can invest on based on this theme today, but that might change tomorrow.

3. Twitter: In recent times, Twitter has been a good source of lead generation for me because I follow a lot of people who are a lot smarter than I am, and in looking through their conversations you discover stocks that you wouldn’t have otherwise thought about.

4. Non stock market business magazines: I feel that business magazines that don’t focus on stocks do a great job of showcasing small companies that are doing well, and magazines like Business India, Business Today and Business World are very useful to do this in the Indian context.

5. Looking at what fund managers are buying: I do this a lot and while I admit that this is a lazy way and hasn’t worked all that well for me, somehow it is very tempting to invest in shares that bigger investors are investing in because it feels like they have spent so much time and money on it – how can they be wrong? They are of course wrong most of the time.

These are some thoughts that I had, and while it is easy to get carried away in the current market environment, if you are interested in directly investing in shares you should definitely read my post on the big risk on investing in stocks directly or more importantly read the comments on that post.

Forum is live again

We used to have a forum here about a year ago and then I got rid of it because of incessant spam which got totally out of control. A lot of you have asked for the forum since then and we have put it back live again. The link can be found on the top of the page, or you can just click here.

Your old user ids and passwords should work but if you don’t remember them then you can always set up a new password. The format is exactly the same as last time, and even the old threads are visible.

There are the following seven categories that you can choose from:

  1. Debt
  2. Gold, silver and other commodities
  3. Insurance
  4. Mutual Funds
  6. Taxation
  7. General / Others

If you have any feedback please leave a comment here.

Gold duty raised to 6% and plans to free gold ETF assets

The government announced its plan to raise duty on gold from 4% to 6% today, and the worry about our current account deficit is the reason behind this increase.

India imported gold worth $38 billion till December last year, and this is foreign reserve that went out of the country. By increasing the duty on gold, the government hopes that it will slow down the purchase of gold, and ease the strain on forex reserves somewhat.

While I don’t know how much of an impact this 2% hike will make, if any at all, I have a feeling that this is not the last hike we have seen. Unless gold prices cool down a bit, people will continue to invest in it and at least from an investment point of view, the high price is driving the demand, and if the price goes any higher then that will drive demand higher as well.

The second step that was announced is more interesting than the gold duty hike, and that is of linking gold ETF schemes to bank’s gold deposit schemes.

When you buy a unit of a gold ETF, it represents about a gram of gold (half a gram in the case of Quantum) and the gold ETF sponsor buys and stores gold on your behalf with a custodian. This gold is lying idle so to speak, and the government has ideas to make use of this ‘idle’ gold.

The ETF’s gold will be linked to gold deposit schemes where jewelers can borrow the gold from banks and pay interest on this gold, and at a future date pay the money equivalent to the gold that they borrowed at the then prevailing price.

This will help reduce the import of gold to the extent that it is borrowed, but in the long term if the demand for gold doesn’t come down then I don’t think this will really reduce imports, it will perhaps play a small role in delaying the imports but not make a long term impact on lowering gold imports or the current account deficit.

However, this should be good news for ETF owners because any interest that the ETF earns out of lending gold will ultimately accrue to the owners and juice up their returns. The details are still to be worked out, but if the lending starts, it should add to gold ETF returns. (Read: Best Gold ETF Funds in 2012)

Is this the right time to enter or exit mutual funds?

Sanjay posted the following comment a few days ago, and I’ll try to pen down some thoughts that I have on this.

Sanjay January 17, 2013 at 1:26 pm [edit]

Is this the right time to enter or exit Mutual Funds?

Given that the market is at a two-year high, what should be one’s approach to Mutual Funds?

My situation: I have been investing in the HDFC Top 200 Fund (monthly SIP) since 2010. The investment was done with a view to hedge against inflation and build a retirement fund (retirement is more than a decade away). HDFC Top 200 is currently showing a net gain of 15.22% for me. Should I continue investing in the fund given that the market is at a 2 year high or suspend investing (but not sell/redeem my existing units) till such time the market falls again?

Can you explain how should one treat mutual funds? Are we supposed to keep investing them till such time we want to (in my case retirement) or are we supposed to sell/redeem when the gains are good (example lets say 30%) and then re-purchase when the market falls?



The Nifty P/E is currently 19 which is not crazy high and if you have just made 15% on your portfolio, I don’t see a good reason to sell and lock in your gains because they aren’t very substantial gains to begin with.

However, this may not be a good time to begin fresh investments and in my own case I have sold some stocks in which there were sizable gains and am waiting for the next time of crisis to really step up investment.

If you have just ten years left for your retirement then I would say this is not the time to get aggressive, and it is much better for you to be conservative with your investing, and invest only a small part of your money in equities anyway which can be quite volatile, and if you want to increase that investment it should be during times of panic and crisis and not times such as these when everyone is excited about the markets, so conserve cash now and deploy it later when there is panic.

Thank you for participating in the CIBIL contest and participant list

Thank you for participating in the CIBIL contest which is now over. I have created this list of participants that I will give CIBIL and they will declare the winner shortly.

Please go through it and let me know if you posted a comment and I missed you. If you simply emailed me then that was not a valid way of participating and I can’t add your name now, so only post a comment if you did that earlier.

All the best!

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