Shiv Kukreja – Page 24

PFC 8.92% Tax-Free Bonds – October 2013 Issue

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

‘AAA’ rated REC issue offered 8.71% to its investors, ‘AA+’ rated HUDCO issue fixed it at 8.76% and then ‘AAA’ rated IIFCL issue managed to cross REC’s peak rate of interest with 8.75%, but now it is the turn of Power Finance Corporation (PFC) to surpass all previous rates to set this year’s highest interest rate on its tax-free bonds by offering 8.92% for a 20-year duration.

PFC would be the fourth company to launch its public issue of tax free bonds this year from Monday i.e. October 14th. The issue would run till fifth Monday i.e. November 11th. But, the company may extend it or preclose it, depending on the investors’ response to the issue.

Interest rates offered by PFC are the highest rates for all three tenors. PFC has set its coupon rates at 8.92% per annum for 20 years, 8.79% per annum for 15 years and 8.43% per annum for 10 years. This jump is due to a rise in the benchmark G-Sec rates in the last 10-15 trading days, after the Repo Rate hike by the RBI.

Size of the Issue – PFC has been authorised to raise Rs. 5,000 crore from tax-free bonds this financial year, out of which it has already raised Rs. 1,124.10 crore through a private placement on August 30th. The company plans to raise the remaining 3,875.90 crore from this issue, with the base issue size of Rs. 750 crore and the green-shoe option of Rs. 3,125.90 crore.

Like REC, if this issue gets subscribed to the tune of Rs. 3,875.90 crore, it will be the last issue of PFC this financial year.

Green Signal for NRIs – After IIFCL not allowing NRIs and QFIs to invest in its issue, PFC has decided not to do that. NRIs, on repatriation basis and on non-repatriation basis, are eligible to invest in this issue. Qualified Foreign Investors (QFIs) are also eligible to participate in this issue.

No Lock-in Period – Many people have been asking me about the lock-in period of these tax-free bond issues, but I don’t know how I missed to mention it here in all my previous posts that there is no lock-in period with these tax-free bonds. If you subscribe to these bonds in demat form, you can sell them anytime you want after their listing on the stock exchange.

These are not tax saving bonds, like 80CCF Infrastructure Bonds or 54EC Capital Gain Tax Saving Bonds, which carry a lock-in period of five years and three years respectively.

Listing – PFC will get these bonds listed only on the Bombay Stock Exchange (BSE). Investors can apply for these bonds either in demat form or in physical form, as per their choice. The company will get the bonds allotted and listed within 12 working days from the issue closing date.

Rating of the issue – Three credit rating agencies, CRISIL, ICRA and CARE have rated this issue and all of them have rated it as ‘AAA’, which is their highest rating to any debt issue. Also, these bonds are ‘Secured’ in nature against certain assets of the company.

Categories of Investors & Allocation Ratio – The investors again have been classified in the following four categories and each category has certain percentage of the issue reserved for the allotment:

Category I – Qualified Institutional Bidders – 15% of the issue is reserved
Category II – Non-Institutional Investors – 20% of the issue is reserved
Category III – High Networth Individuals including HUFs, NRIs & QFIs – 25% of the issue reserved
Category IV – Resident Indian Individuals including HUFs, NRIs & QFIs – 40% of the issue reserved

Minimum & Maximum Investment – There is no change in the minimum investment requirement of Rs. 5,000 i.e. at least 5 bonds of Rs. 1,000 face value each. Retail Investors’ investment limit stands at Rs. 10 lakhs, beyond which they will be considered as HNIs and will get a lower rate of interest.

Interest on Application Money & Refund – PFC will pay interest to the successful allottees on their application money at the applicable coupon rates, from the date of realization of application money up to one day prior to the deemed date of allotment. Unsuccessful allottees will get interest @ 5% per annum on their refund money.

Factors favouring investment in this PFC Issue…

* Highest Coupon Rates – Thanks to a sudden spike in the G-Sec yields in the last 10-12 trading days since the RBI raised the Repo Rate in its monetary policy of September 20th, PFC has been to offer the highest interest rates of the current financial year. I think with 8.92% or 8.79% tax-free rates, investors in the 30% or 20% tax brackets would not even think of going for a bank FD @ 9%.

* RBI cutting the MSF Rate – RBI has cut the MSF Rate by 50 basis points to 9% a couple of days back. The idea was to reduce liquidity crunch in the banking system and help banks in reducing their cost of overnight (very short-term) borrowings and also normalize the yield curve. This move makes market participants believe that the RBI will try to cap the rise in overall interest rates as much as possible.

* Fall in G-Sec Yield – As a result of the RBI’s move to cut the MSF Rate, the 10-year G-Sec yield has fallen from 8.68% to 8.46% in the last couple of days. If this fall is not temporary and continues for a little longer time, you would see a fall in the coupon rates of the upcoming tax-free bond issues.

* Postponement of QE3 Tapering & US Shutdown – US Federal Reserve’s decision to postpone QE3 tapering and a partial shutdown in the US have resulted in a fall in the 10-year bond yield there from 3%+ to 2.64% today. This should also keep the sentiment somewhat healthy here in the Indian bond market.

* Steep fall in September Trade Deficit – With a fall in gold & oil imports and a surge in exports, the Ministry of Commerce today announced a steep fall in our September trade deficit. The problem, which was becoming too burdensome for our economy, is finally getting controlled. This should strengthen the value of Indian rupee against the US dollar in the coming days and the bond yield should also move lower.

Factors against this PFC Issue – Though there are not many factors which come to my mind against this issue, but overall things are not very bright for the power financing sector here in India. PFC, REC and PTC India Financial Services are some of the companies which have been struggling to get their money back which they have been lending to the state electricity boards (SEBs) over the years.

These kind of events have resulted in its share price falling from Rs. 350+ during 2010-11 to below Rs. 100 this year and I think stock price performance is a good barometer to check a company’s current financial health and future prospects. So, this is one thing which you should consider before investing your money in this issue.

With PFC offering relatively higher interest rates and NHPC issue hitting the market only in the third week, I would prefer to invest my money in this issue as compared to HUDCO and IIFCL issues. With so many positives and a possible fall in inflation & interest rates, I think PFC’s rates would be the highest coupon rates offered by any ‘AAA’ rated issuer this financial year.

Application Form of PFC Tax Free Bonds

As per SEBI guidelines, ‘Bidding’ is mandatory before banking the application form, else the application is liable to get rejected. For bidding of your application, any further info or to invest in PFC tax-free bonds, you can contact me at +919811797407

IIFCL 8.75% Tax-Free Bonds – October 2013 Tranche-I Issue

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

After REC 8.71% issue and HUDCO 8.76% issue, India Infrastructure Finance Company Limited (IIFCL) would be the third such company to come up with its public issue of tax free bonds this financial year from the coming Thursday i.e. October 3rd.

IIFCL has fixed its coupon rates at 8.75% per annum for 20 years, 8.63% per annum for 15 years and 8.26% per annum for 10 years. As compared to the HUDCO issue, the rates are lower for the 10 year and 15 year options, but higher for the 20 year option. This is probably due to a rise in the longer duration rates in the last 10-odd days, after the Repo Rate hike by the RBI.

The issue has been rated ‘AAA’ as against the currently running ‘AA+’ rated issue of HUDCO. So, I think the investors, who were not subscribing to the HUDCO issue due to its lower rating of ‘AA+’, should definitely lap it up to enjoy higher tax free rate of interest.

The official closing date of the issue is October 31, but the company may extend it or preclose it, depending on the investors’ response to the issue.

Size of the Issue – IIFCL is allowed to raise Rs. 10,000 crore from tax-free bonds this financial year, out of which it has already raised Rs. 2,963.20 crore through three of its private placements. The company plans to raise Rs. 2,500 crore from this issue, including the green-shoe option of Rs. 2,000 crore, and that is why the company is calling it to be “Tranche-I Issue”.

The issue size is smaller in comparison to the issue size of REC bonds of Rs. 3,500 crore and also of HUDCO bonds of Rs. 4,809.20 crore. I was expecting IIFCL to raise Rs. 7,000 crore from this issue itself, but probably the company sees lesser investor appetite at this point in time, as the market is already flooded with other bond or NCD issues.

NRIs not allowed – This was quite surprising to me. Contrary to what was appearing in the newspapers a few days back to attract foreign investors or non-resident Indians (NRIs) to invest in some kind of infra bonds issued by IIFCL, the company has not allowed them to invest in this Tranche-I issue at least. Probably they have their own reasons behind it.

Listing – IIFCL will get these bonds listed only on the Bombay Stock Exchange (BSE). Investors can apply for these bonds either in demat form or in physical form, as per their comfort and requirement. The company will get the bonds allotted and listed within 12 working days from the issue closing date.

Interest on Application Money & Refund – IIFCL will pay interest to the successful allottees on their application money, from the date of realization of application money up to one day prior to the deemed date of allotment, at the applicable coupon rates. Unsuccessful allottees will get interest @ 5% per annum on their refund money.

Rating of the issue – Four companies have rated this issue, ICRA, Brickwork Ratings, CARE and India Ratings, and all of them have rated this issue at ‘AAA’, which is their highest rating to any debt issue. Also, these bonds are ‘Secured’ in nature against certain assets of the company.

Categories of Investors & Allocation Ratio – The investors again have been classified in the following four categories and each category will have certain percentage of the issue reserved for the allotment:

Category I – Qualified Institutional Bidders (QIBs) – 15% of the issue is reserved
Category II – Non-Institutional Investors (NIIs) – 20% of the issue is reserved
Category III – High Networth Individuals (HNIs) including HUFs – 25% of the issue is reserved
Category IV – Resident Indian Individuals (RIIs) including HUFs – 40% of the issue is reserved

Profile of the company – IIFCL, which started its operations in 2006, is 100% owned by the Government of India. IIFCL has been a key institution in the infrastructure financing space and serves the strategic role in financing economically viable infrastructure projects in the country.

IIFCL is a favoured institution with the Government of India. Its board of directors includes representatives from the Ministry of Finance and the Planning Commission. Also, India Infrastructure Finance Company UK (IIFC-UK), IIFCL’s wholly-owned subsidiary, has a government-guaranteed $5 billion credit line from the Reserve Bank of India (RBI) against India’s foreign exchange reserves.

The government has supported IIFCL by way of regular equity infusions and this figure stood at Rs. 400 crore last financial year. IIFCL has total borrowings of Rs. 29,493 crore as on March 31, 2013, out of which 72% borrowings carry sovereign guarantee by the government.

With the interest rates still ruling higher, IIFCL’s interest rates look quite attractive to me. IIFCL is a special company in the infrastructure finance space and I think the support extended to it by the government will continue in the near future as well. With so many positives, I think this issue definitely merits some consideration by the investors.

Download the Application Forms of IIFCL Tax Free Bonds

As per SEBI guideline, ‘Bidding’ is mandatory before banking the application form. For bidding of your application, any further info or to invest in IIFCL tax-free bonds, you can contact me at +919811797407

Shriram Transport Finance 11.75% NCDs – October 2013 Issue

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

Shriram Transport Finance Company Limited (STFCL) will be launching its public issue of non-convertible debentures (NCDs) from October 7th i.e. next Monday. The company plans to raise Rs. 500 crore with this issue, including a green-shoe option of Rs. 250 crore.

This is the second such public issue of this financial year from STFC, as the company raised Rs. 750 crore from its first issue in July and the issue got preclosed in just seven days time on July 24th. The current issue will get closed in a couple of weeks time on October 21st, if it does not get preclosed this time again or extended by the company beyond this date.

Shriram Transport Finance offered 10.90% per annum for 36 months and 11.15% per annum for 60 months in its last issue to the individual investors. This time the rates are 35 basis points (or 0.35%) higher at 11.25% per annum for 36 months and 11.50% per annum for 60 months. The company did not offer 84 months option in its first issue, which is there in its current issue. But, there is no monthly interest option this time.

Before it starts getting repetitive again, here you have the table having the details about the tenors and the interest rate options.

As you can check from the table above, there is an additional incentive of 0.50% p.a. with 36 months option, 0.75% p.a. with 60 months option and 1% p.a. with 84 months option. Unlike tax-free bonds, this additional incentive is available to the individual investors irrespective of the size of their investment amount.

The company is offering its highest rate of interest @ 11.75% p.a. for an investment period of 84 months, which is a very long period for me to stay invested with a private company. Personally, I would avoid 84 months option.

Categories of Investors – The investors have been classified in the following four categories and the individual investors fall in Category III as well as Category IV.

Category I – Institutional Investors
Category II – Non-Institutional Investors
Category III – High Net-Worth Individuals, including Hindu Undivided Families (HUFs)
Category IV – Retail Individual Investors, including Hindu Undivided Families (HUFs)

Non-Resident Indians (NRIs), foreign nationals and qualified foreign investors (QFIs) among others are not eligible to invest in this issue.

Allocation Ratio – 50% of the issue is reserved for the Retail Individual Investors (RIIs) i.e. the individual investors investing up to Rs. 5 lakhs and 30% of the issue is reserved for the High Net-Worth Individual Investors (HNIs) i.e. the individual investors investing above Rs. 5 lakhs. 10% of the issue is reserved for the Institutional Investors and the remaining 10% is for the Non-Institutional Investors (NIIs). The allotment will be made on a “first come first serve” basis.

Minimum Investment – Like last time, the company has decided to keep the minimum investment requirement at Rs. 10,000 again i.e. 10 bonds of face value Rs. 1,000 each.

Listing – STFC will get these bonds listed on the National Stock Exchange (NSE) as well as the Bombay Stock Exchange (BSE). Investors can apply for these bonds either in physical form or in demat form, at their own discretion.

Allotment and subsequent listing both are happening super fast these days as we have seen it in the case of REC tax-free bonds. The company will get the NCDs allotted and listed within 9 working days from the date of closure of the issue.

Rating & Nature of the NCDs – CRISIL has rated these NCDs as ‘AA/Stable’ and CARE has assigned a rating of ‘AA+’ to this issue. Moreover, these NCDs are ‘Secured’ by a first charge on an identified immovable property and specified future receivables of the company.

Taxability & TDS – The interest earned on these NCDs will be taxable as per the tax slab of the investors. TDS will be applicable if the NCDs are taken in the physical form and the interest amount exceeds Rs. 5,000 in a financial year. But, if you take these NCDs in your demat account, the company will not deduct any TDS from the interest income.

Interest on Application Money & Refund – Investors will get interest on their application money @ 9% p.a., from the date of investment till the deemed date of allotment, and @ 4% p.a. on the amount liable to be refunded.

Interest Payment Date & Record Date – STFC will make its first interest payment on April 1, 2014 and then on April 1st every year. The record date will be 15 days prior to every interest payment date.

Performance of NCDs issued in July – It is not surprising for me to see all of the NCDs, issued in its first issue in July, to trade below the face value of Rs. 1,000. The reason being the interest rates have risen since then.

STFC-NV, 36 months annual interest option, last traded at Rs. 985 and STFC-NW, 60 months annual interest option, last traded at Rs. 980.10 as on September 27, 2013. Allotment date of these NCDs was August 1, 2013 and it has been almost two months since then. So, the yield on these NCDs must be ruling around the coupon rates offered by the company in the current issue.

IIFL NCDs Issue vs. STFC NCDs Issue vs. HUDCO Tax-Free Bonds

If some of the investors were comfortable investing with the just concluded IIFL NCDs but somehow missed it, then I think they can consider investing in this issue. My personal opinion is that the business model of Shriram Transport Finance is better than the business model of India Infoline Finance Limited (IIFL) and probably its credit rating also suggests that.

But, I would still say that one should explore the already listed NCDs yielding 13-14% with a maturity period of 1-2 years. I think, with fixed deposits (FDs) or NCDs issued by private companies, the shorter the tenure of your investment is, the better it is.

As explained many times earlier, I think the investors falling in the higher tax brackets should opt for tax-free bonds rather than these taxable NCDs. So, personally I would go for HUDCO tax-free bonds or the upcoming IIFCL tax-free bonds rather than these STFC NCDs.

If you are thinking that I have missed to quote the financial of the company in this post, then you are right, but it is intentional. I did that exercise in my July STFC NCDs post and I don’t want to do that again as those were its latest annual results.

Link to Download the Application Form of Shriram Transport Finance NCDs

How to generate monthly inflows from Tax-Free Bonds?

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

A couple of days back, I got an investor query on my email id asking me whether she should go for NCDs issue of India Infoline Finance Limited (IIFL) or not and can we expect any tax-free bonds issue to offer monthly interest option. She also told me that she falls in the 30% tax bracket and her mother, for whom also she wants to invest, falls in the 20% tax bracket.

So, if you have been reading my posts regularly, you must be knowing my thoughts about it by now. I told her that I think it is better to invest in HUDCO tax-free bonds as compared to IIFL NCDs as she and her mother both fall in the higher tax brackets and also it is always better to go with debt securities of the government-owned public sector companies vis-a-vis private sector issuers.

But, her reason for considering IIFL NCDs was different and genuine also. She wanted to have a regular monthly income for her mother and she was not able to take a decision between Post Office Monthly Income Scheme (POMIS), which is fetching 8.40% annually to its investors for FY 2013-14, and IIFL NCDs, which are going to give approximately 43% higher interest @ 12% per annum.

Though she knew that POMIS deposit is government backed and old age people should not take high risks with their principal investments by depositing their hard-earned lifetime savings with private companies, she wanted to earn higher rate of interest, interest rate which is able to earn them somewhat higher than the spiralling inflation.

I told her that the government has not allowed any of the companies to issue tax-free bonds with monthly interest payment option. The maximum these companies can offer is to make the interest payments twice in a year, on a semi-annual basis. But, no company till date has issued bonds with a semi-annual interest payment.

So, what is the deal? How can you generate regular monthly inflows from your tax-free bonds, which are designed to pay it only once every year, and pay tax only to the minimum extent possible?

By now, we all know the taxability rules of the bonds/NCDs listed on the stock exchanges. What did you say? You do not know the tax provisions as yet? Shame on me if you do not know the taxation rules even now, I have been writing these posts since ages now.

🙂 Just trying to make you people feel a little light and prepared for reading a long post!

As per the language of HUDCO tax-free bonds prospectus – “As per third proviso to Section 48 of Income tax act, 1961, benefits of indexation of cost of acquisition under second proviso of Section 48 of Income tax Act, 1961 is not available in case of bonds and debenture, except capital indexed bonds. Thus, long term capital gain tax can be considered at a rate of 10% on listed bonds without indexation”.

I hope at least now the taxation rules are clear! No ?? Still Not ?? What did you say ?? The language does not tell you the rules for the short term capital gain tax. Oh yes, I am sorry !! You are right, my mistake !!

So, here you have the taxation provisions with respect to the short-term capital gains – “Short-term capital gains on the transfer of listed bonds, where bonds are held for a period of not more than 12 months would be taxed at the normal rates of tax in accordance with and subject to the provision of the I.T. Act.

A 2% education cess and 1% secondary and higher education cess on the total income tax (including surcharge for corporate only) is payable by all categories of taxpayers”.

I hope now it is done and nobody will forget these rules now onwards!

So, you must be asking, am I suggesting you to start selling these bonds every month from the end of the first month itself from the date of their allotment ?? You are partially right. Yes, I am suggesting you to sell 1% of your investment in these bonds every month to get a sort of monthly income, but not from the end of the first month itself, but starting from the 13th month of your investment from tax planning point of view.

How it works?

Suppose, you fall in the higher tax bracket of 30% or 20% and invest Rs. 1 lakh in any of the tax-free bond issues, HUDCO, IIFCL, PFC, IRFC, NHB or any other company. Stay invested with these bonds for at least one complete year and from the thirteenth month onwards, you can start selling 1% of your investment every month. If you do that every month, you are going to get 1% of your investment i.e. approximately Rs. 1,000, for 100 months or 8 years & 4 months. This way it is going to last till 9 years and 4 months from the date of your investment and that is how it would be helpful if your investment is for 10 years.

Assumptions

* The investor takes tax-free bonds in a demat account, in order to sell them on a monthly basis or periodicity of his/her choice. It is very difficult to find a buyer for the physical bonds.

* After each annual interest payment, tax-free bonds are assumed to appreciate in value exactly equal to the monthly value of their annual interest. So, if the annual interest is 8.76%, then the market price of the bond is assumed to appreciate by 0.73% every month i.e. 8.76% / 12 months.

* Tax is paid as & when each monthly cash inflow is received.

* Brokerage charges on sale of the bonds have been ignored as they vary across different broking houses and across different investors. Investors should consider them before taking a final decision.

Let me try to explain you the monthly cash inflow table. Interest earned on IIFL NCDs is taxable as per the tax slab of the investor, so it has been termed as the “Normal Tax”, whereas long term capital gain tax on listed tax-free bonds is 10.30%.

IIFL NCDs post-tax monthly inflow = Interest Rs. 1,000 – Tax Rs. 309 @ 30.90% = Rs. 691.

IIFL NCDs post-tax monthly inflow = Interest Rs. 1,000 – Tax Rs. 206 @ 20.60% = Rs. 794

IIFL NCDs post-tax monthly inflow = Interest Rs. 1,000 – Tax Rs. 103 @ 10.30% = Rs. 897

HUDCO TFBs post-tax monthly inflow (Rs. 1,006.55 – for understanding purposes)

Sale Price of 1 Bond (13th month) = Rs. 1,000 * (1 + 8.76%/12) = Rs. 1,007.30

Long Term Capital Gain (LTCG) = Rs. 1,007.30 – Rs. 1,000 = Rs. 7.30

Long Term Capital Gain Tax = 10.30% of Rs. 7.30 = Rs. 0.7519

HUDCO TFBs post-tax monthly inflow = Rs. 1,007.30 – Rs. 0.7519 = Rs. 1,006.5481 (or Rs. 1,006.55)

If the investment is for 20 years or 15 years?

If your investment is for 20 years, you can either cut down your sale of these bonds by half or you can double your investment, in order to get the same monthly inflows for the next 16 years & 8 months, from next year onwards. You can do it with 15 years option also in a similar way. But, please mind it that to trade in these bonds, you are required to sell at least one bond. So, to have such monthly income for 15-20 years, you need to invest at least Rs. 1,50,000 to Rs. 2,00,000.

What about its annual interest?

I would call it a bonus. You can use it whichever way you want. You can reinvest it next year in any of the investment instruments you want. You can use it for meeting any of your other financial goals. You can go on a holiday with that money. You can use it along with your so called monthly income (sale of these bonds every month).

Basic idea behind it?

It is similar to a systematic withdrawal plan (SWP) of mutual funds. Though it must be clear to you by now, but I want to reiterate it here that the first basic idea behind this way out is to make tax-free bonds comparable to IIFL NCDs like instruments, which are giving 1% monthly interest to its investors throughout its holding period, but the interest is taxable as per the tax slabs of the investors.

The next basic purpose is to make your investment as tax efficient as it is possible. That is why I have suggested here to start selling these bonds from the next year onwards. You are required to pay only 10% tax on your long term capital gains you make by selling these bonds after one year.

If you really require regular inflows from the beginning itself, you can start selling these bonds from the beginning itself. The maximum you would be required to pay in tax in the first year would be exactly equal to the tax you are going to pay on the interest income earned from the IIFL NCDs.

Though I am still unaware of any major fallout of this technique of getting monthly inflows out of our tax-free bond investments, I am sure there must be some. I would like you people to do some brainstorming and find out at least one or two for me, so that we can try to work more on this idea and make it even better, if we can.

RBI’s September 2013 Monetary Policy Review

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

What the Finance Minister P Chidambaram must have advised the RBI’s ex-Governor D Subbarao not to do and what he must have wanted US Federal Reserve Chairman Ben Bernanke not to do, the former Chief Economic Advisor, Raghuram Rajan has done exactly that in his first ever monetary policy as the new Governor of the Reserve Bank of India.

In the RBI’s September monetary policy today, Dr. Rajan has increased the Repo Rate, which Dr. Subbarao could have done a couple of months back, and spooked the Indian markets by his actions, which Mr. Bernanke could have done a couple of days back.

Actually, Dr. Subbarao resisted tinkering with the key policy rates in July, as he wanted the markets to initially believe that his policy actions were temporary in nature and he would reverse those measures quickly, as and when there is some stability in the currency markets. But, nobody could stop the market participants to panic at that point in time and the rupee to fall from 58-59 against the dollar to 68-69 in less than a month’s time.

Just before Dr. Rajan took charge at the Mint Street, markets were in a state of disarray. There were a number of pressure points, which were taking the global markets down and making the analysts predict NSE Nifty to touch 4,800. Those pressure points included a possible US attack on Syria over Syria’s use of chemical weapons, a high possibility of QE3 tapering by the US Federal Reserve, India’s trade deficit to remain high due to low exports & high imports, Indian rupee touching a psychological 70 mark and so on.

Call it a perfect luck or whatever, since then the global markets have seen all these fears receding very smoothly one by one. Tensions over Syria have come down considerably, India’s trade deficit has gone down to $10.9 billion in August, the rupee has recovered to below 62 levels and most importantly, US Fed has postponed its tapering programme till the time it sees the US economy growing the way they want it to grow.

Today was Dr. Rajan’s first serious test as the new Governor of the RBI. So, let us check what exactly Dr. Rajan has done in his first monetary policy and what exactly he wants to do with those measures.

0.25% hike in the Repo Rate to 7.50% – RBI has increased the Repo Rate by 25 basis points from 7.25% to 7.50%. This is the rate at which the commercial banks borrow money from the RBI for a short period of time. RBI has increased this rate to discourage banks to borrow and further lend money in the market, as the dangers of the inflation moving up have increased dramatically with a steep fall in the value of rupee since its last monetary policy.

So, what actually made him raise the Repo Rate? The answer is rising overall inflation, due to steep fall in rupee and upsurge in food inflation (including onions).

0.75% reduction in the MSF Rate to 9.50% – RBI has reduced the Marginal Standing Facility (MSF) Rate by 75 basis points from 10.25% to 9.50%. This is the rate which the RBI charges to the scheduled commercial banks for the money borrowed for their overnight liquidity requirements.

If you had made any investment in gilt funds or income funds during April-June period, then you must remember RBI’s first move in July to curb speculation in the currency market. RBI had hiked the MSF Rate very steeply by 200 basis points from 8.25% to 10.25%.

Now, the RBI has cut this rate to give some relief to the banking system for which the cost of borrowing money under this window had increased considerably. Also, RBI has been able to reduce this rate as the dangers of the currency volatility have reduced in the recent few days.

0.25% hike in the Reverse Repo Rate to 6.50% – RBI has increased the Reverse Repo Rate by 25 basis points from 6.25% to 6.50%. This is the rate at which the banks deposit their excess money with the RBI for a short period of time. This rate is linked to the Repo Rate and remains 1% below the Repo Rate. These are not the times of abundant liquidity in the banking system, so there is not much significance of hiking this rate.

Minimum daily cash reserve requirement reduced to 95% of deposits from 99% – This is the RBI’s second measure in favour of improving the sentiment in the banking system. In its second big move on July 23, RBI hiked the minimum cash reserve ratio (CRR) requirement of banks from 70% of their deposits to 99%. Today, Dr. Rajan reduced this requirement from 99% to 95%. This move is going to provide some elbow room to the banks as far as the liquidity is concerned.

No change in Cash Reserve Ratio (CRR) – RBI has left the CRR unchanged at 4%. Despite SBI Chairman, Mr. Pratip Chaudhuri, asking the RBI to cut the CRR many a times in the past, Dr. Rajan also did not bulge and decided to continue walking the same path as used by his predecessor.

Impact of the Monetary Policy

What happened today here in India was the exactly opposite of what happened in the US on Wednesday. Most of the people had expected the US Fed to announce some sort of QE3 tapering, be it of a smaller quantum, but Fed’s decision to leave it unchanged left the market participants pleasantly surprised.

Today, most of the people had expected the RBI Governor to start it from where the Fed had left it that day. Markets had expected Dr. Rajan to remain dovish and reverse most of the harsh steps the earlier Governor had taken. But, people were left extremely disappointed to have a hike in the Repo Rate and a token relief on the liquidity front.

Impact on Stock Markets: After yesterday’s big upmove and immediately after the RBI’s announcements, BSE Sensex and NSE Nifty nosedived to reverse all of their yesterday’s gains and thereafter recovered somewhat to close at 20,264 and 6,012 respectively.

Impact on Debt Markets: 10-year benchmark 7.16% G-Sec yield closed at 8.58%, 39 basis points higher than Thursday’s close of 8.19%.

Impact on Currency: Though a hike in the Repo Rate should have boosted the value of Indian rupee, but a fall in both the equity market as well as the debt market resulted in rupee closing at 62.24 vs. yesterday’s 61.77, a rise of 47 paise in the value of one dollar.

So, after RBI’s policy decisions and market closing, this is where we stand as of today:

It is such a pity that even after such a wonderful Rabi season early this year and some excellent monsoon rains in most parts of the country in the last few months, we are still struggling with a double digit food inflation. The government, which is not able to manage the supply of onions in some of the major cities of India, makes big claims to ensure food security in the remote parts of the country.

The steps Dr. Rajan has taken today, I think any sensible RBI Governor would have taken the same steps, including Dr. Subbarao. Till a few days back, Dr. Rajan’s press conferences used to reflect what the Finance Ministry’s priorities were. But, the erstwhile Chief Economic Advisor is now the Governor of the Reserve Bank of India and I think his responsibilities are his priorities now. That is what got reflected in the RBI’s monetary policy today.

I think Dr. Rajan has taken a balanced decision by increasing the Repo Rate to tame inflation and by reducing the MSF Rate to cut short-term funding costs in the banking system. After today’s 75 basis points reduction in the MSF Rate, the differential between the Repo Rate and the MSF Rate stands at 200 basis points now. I think Dr. Rajan would like to take it down to 100 basis points again, by the end of November 2013. How, what & when he does it, it will depend on the domestic as well as some of the global factors. Will he succeed in his efforts or not? As always, only time will tell. But, as an Indian, I hope he does!

IIFL 12% NCDs vs. HUDCO 8.76% Tax-Free Bonds – which one is better to invest?

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

Two debt issues opened for subscription on September 17 – India Infoline Finance Limited (IIFL) 12% NCDs and HUDCO 8.76% Tax-Free Bonds. Both these issues have seen reasonably good response from the investors. But, still there are many people who have not been able to take a decision and probably require some more help or some detailed research. Let us try to do a comparative analysis of the two.

A couple of days ago Vijay asked me to illustrate IIFL NCDs with a numeric example, involving rupee values of return.

Vijay September 17, 2013 at 10:26 am

Can you illustrate IIFL with some numeric example. I am sure, most of the reader does not understand yield definition very well.

As I did not want to edit the original post, I could not fulfill his desire. But, now I can get his request fulfilled by comparing numeric examples of both IIFL NCDs and HUDCO tax-free bonds.

There are many factors which should determine your decision and I am going to state those factors here:

Maturity Period – As interest rates hit troughs, the investors should go for the shortest possible period of investments and when interest rates hit peaks, the investors should go for the longest possible period of investments. Though it is very difficult to determine these troughs and peaks, I think the current period is one of those of higher interest rates in the recent history with the 10-year G-Sec bond yields crossing 9% psychological mark.

IIFL has a maturity period of 36 months & 60 months, whereas HUDCO is available with tenors of 10 years, 15 years and 20 years. So, which one should you invest in? If you think there is still more room for interest rates to rise, you should go for IIFL NCDs and if you agree with my view on the interest rates, then you should go for the HUDCO 20-year or 15-year bonds.

Coupon Rates & Taxability – While HUDCO is offering tax-free interest rates of 8.74%, 8.76% and 8.39% for 20 years, 15 years and 10 years respectively, IIFL has fixed a single taxable rate at 12% for both of its maturity periods, 36 months & 60 months.

Investor’s Tax Bracket – First, you should determine your income tax bracket for the current financial year and try to foresee it for those financial years also till which you are planning to stay invested in these NCDs/bonds. If you fall in one of the higher tax brackets, then I think it is better to invest in HUDCO tax-free bonds as paying tax on 12% interest income from IIFL would make it 8.29% in the 30% tax bracket and 9.53% in the 20% tax bracket.

I would say earning 8.76% with tax-free bonds with safety of a government company and ‘AA+’ rating clearly makes me favour HUDCO bonds. If one is not liable to pay any tax on the interest income earned, then only I think IIFL NCDs would score over HUDCO bonds. It is up to the investors to decide if they fall in the 10% tax bracket.

Frequency of Interest Payments – While IIFL is offering annual as well as monthly interest payment options, HUDCO has only one interest payment option and that is annual. It makes IIFL NCDs attractive for those investors who want monthly interest payment option.

Ratings, Safety & Business Model – IIFL NCDs are rated ‘AA’ while HUDCO bonds are rated ‘AA+’, a difference of just one notch. But, practically there is a lot of difference. IIFL is a private company and a 98.87% subsidiary of India Infoline Group. It is a relatively newer company with business model concentrated in two major segments, mortgage loans and gold loans.

HUDCO is a wholly-owned corporation of the government of India. It has a relatively stable business model with financing of housing and urban infrastructure in many major cities across India. IIFL’s business model is relatively riskier than HUDCO. This factor also goes in HUDCO’s favour.

Issue Size – While HUDCO is planning to raise Rs. 4,809.20 crore from its issue, IIFL wants to raise Rs. 1,050 crore. How the issue size matters? The bigger the issue size, the higher is the liquidity in the secondary markets. Higher liquidity provides easier exit option to its investors. So, I think the issue size is also positive for HUDCO bonds.

Listing – While the issue size of IIFL is smaller than HUDCO’s issue size, it is going to list on both the stock exchanges, Bombay Stock Exchange (BSE) as well as National Stock Exchange (NSE). HUDCO bonds are going to list only on the BSE. Though the issue size of HUDCO is big and there will not be any liquidity problem as such, but still it would have been better if the company could have got it listed on the NSE as well. This augurs well for IIFL NCDs.

While the whole world cheers the US Federal Reserve’s policy decision not to taper QE3 and to keep its bond-buying programme steady at $85 billion per month, I think it presents a perfect platform to the Governor of RBI, Dr. Raghuram Rajan, to bring back the much awaited normalcy in the Indian bond and currency markets. If he succeeds in doing that, I think the bond investors are up for a really good time. They should then be subscribing to these bonds at these really attractive interest rates.

HUDCO 8.76% Tax Free Bonds Issue – September 2013

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

After a reasonably good response to the REC tax-free bonds, the next eligible company to come up with such an issue is Housing and Urban Development Corporation Limited (HUDCO). The company will be launching its issue from the coming Tuesday, September 17.

The rates the company is going to offer in this issue are higher than the rates offered by REC in its issue, which is still open and getting closed on September 16. There are two reasons for it, firstly, HUDCO issue is ‘AA+’ rated and that is why it can offer rates 10 basis points (or 0.10%) higher than any ‘AAA’ rated issuer. Secondly, the average G-Sec rates have been ranging higher in the past 10-20 days than they were earlier when REC came up with its issue.

As compared to REC’s 8.26% (10Y), 8.71% (15Y) and 8.62% (20Y), HUDCO is offering 8.39%, 8.76% and 8.74% rate of interest for the respective tenors.

Though the interest will be paid annually, I do not know the interest payment date as yet, as the final prospectus filed on September 11 is still not available on SEBI’s website, on BSE’s website, on HUDCO’s website and not even on any of the lead managers’ websites. It is quite disappointing for me not to have the prospectus available for public reference even three days prior to the issue opening date.

HUDCO is allowed to raise Rs. 5,000 crore from tax-free bonds this financial year, out of which it has already raised Rs. 190.80 crore through private placement. So, now it plans to raise the remaining Rs. 4,809.20 crore through this public issue, including the green-shoe option of Rs. 4,059.20 crore. The base issue size is Rs. 750 crore.

The official closing date of the issue is October 14 and the company may extend or preclose the issue, depending on the investors’ response to the issue.

There are many things which are common in this issue and the REC issue, so I will quickly state those features which are different in this issue.

Rating of the issue – CARE and India Ratings have assigned a rating of ‘AA+’ to this issue, which is also ‘Secured’ in nature. HUDCO is wholly-owned by the government of India, so the investors’ investment is quite safe.

Listing – HUDCO will get these bonds listed only on the Bombay Stock Exchange (BSE). The allotment and the listing will happen within 12 working days from the closing date of the issue. Investors can apply for these bonds either in physical form or in demat form, as per their comfort and requirement.

Interest on Application Money & Refund – The investors will get interest on their application money also, from the date of investment till the deemed date of allotment, at the same rate of interest as the applicable coupon rate is. Unlike REC issue which is to pay 5% p.a. interest on the refund money, HUDCO will pay the applicable coupon rate.

Categories of Investors & Basis of Allotment – The investors again have been classified in the following four categories and each category will have certain percentage of the issue reserved for the allotment:

Category I – Qualified Institutional Bidders (QIBs) – 10% of the issue is reserved

Category II – Non-Institutional Investors (NIIs) – 20% of the issue is reserved

Category III – High Net Worth Individuals including HUFs, NRIs & QFIs – 30% of the issue is reserved

Category IV – Resident Indian Individuals including HUFs, NRIs & QFIs – 40% of the issue is reserved

QIBs portion had 20% of the issue reserved in the REC issue and after observing their response in that issue, their reserved portion has been reduced to 10% in this issue. Category III HNI investors will get this 10% share of the pie. NRIs are eligible to invest in this issue as well, on a repatriation basis as well as on non-repatriation basis. Qualified Foreign Investors (QFIs) are also eligible.

Interest rates of this issue look very attractive to me. Earlier I used to say that the investors in the 30% or 20% tax bracket should consider these bonds, but now I advise investors even in the 10% tax bracket to go for these bonds. Though not strictly comparable, these bonds are attractive even against IIFL NCDs or Muthoot NCDs.

I think the way Indian rupee and the stock markets have recovered in the past 10 days or so, the G-Sec yields should also start falling soon. Going forward, I think the rates should not be higher than these HUDCO bonds, unless US Fed Reserve has something very dramatic in store for us in its meeting on September 17-18.

Link to Download the Application Form of HUDCO Tax-Free Bonds

If you need any further info or you want to invest in these bonds, you can contact me at +919811797407

India Infoline Finance Limited 12% NCDs Issue – September 2013

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

So, the next company in line to issue non-convertible debentures (NCDs) is India Infoline Finance Limited (IIFL), a 98.87% subsidiary of India Infoline Limited (IIL). It is the same company which issued 12.75% unsecured NCDs last year in September and 11.90% / 11.70% secured NCDs in August 2011. I will talk about its past issues later in the post, but first let us check out the features of its current issue.

This year the company is offering 12% interest rate, across two maturity periods – 36 months and 60 months. The issue will open next week on September 17th and is scheduled to close on October 4th, but if required, the company may extend the closing date of the issue, depending on the investors’ response.

The company plans to raise Rs. 1,050 crore from this issue, including the green-shoe option of Rs. 525 crore. The issue size looks fairly large to me and the company plans to use these proceeds for its financing activities and business operations and also to repay its existing loans.

Categories of Investors & Basis of Allotment – The investors have been classified in the following three categories and each category will have certain percentage of the issue reserved for the allotment:

Category I – Institutional Investors – 40% of the issue is reserved

Category II – Non-Institutional Investors (NIIs) – 10% of the issue is reserved

Category III – Resident Indian Individuals (RIIs) – 50% of the issue is reserved*

* Out of 50% reserved for Category III, upto 40% of the issue will be allotted to the resident individual investors who apply for these NCDs aggregating to a value not more than Rs. 10 lakhs and upto 10% of the issue will be allotted to those resident individual investors who apply for these NCDs aggregating to a value of more than Rs. 10 lakhs. The first sub-category is called “Reserved Individual Portion” and the second sub-category is called “Unreserved Individual Portion”. In a way, the second sub-category is for HNIs.

Non-resident individuals (NRIs), on repatriation as well as non-repatriation basis, and Qualified Foreign Investors (QFIs) are also eligible to invest in this issue. NCDs will be allotted on a first-come-first-serve basis.

Rate of Interest and Tenors

Unlike Muthoot NCDs issue, which is very complicated due to its XI interest options, IIFL has kept its issue fairly simple. There is only one interest rate to deal with and that is 12% per annum. Also, there is no cumulative interest option this time and the interest will be paid either annually or on the first day of every month.

Like its previous issues, the company has kept equal coupon rate for all the categories of investors – institutional, non-institutional and the retail investors. Also, there are only two maturity periods – 36 months and 60 months.

Minimum Investment – Minimum investment requirement has been kept at Rs. 5,000 i.e. 5 bonds of face value Rs. 1,000 each.

Ratings & Nature of NCDs – CARE has assigned ‘AA’ rating and Brickwork Ratings has given ‘AA/Stable’ rating to this issue. Unlike last year, these NCDs are secured in nature and that ways, the claims of the investors this year will be superior to the claims of those investors who invested in its 12.75% NCDs last year.

Listing, Demat & TDS – These NCDs are proposed to be listed on both the exchanges, National Stock Exchange (NSE) as well as Bombay Stock Exchange (BSE). Resident investors have the option to apply these NCDs in physical form as well as demat form. But, NRIs will compulsorily require demat accounts to apply for these NCDs.

It is a standard statement for the taxable NCDs. The interest earned will be taxable as per the tax slab of the investor and TDS will be applicable if the interest amount exceeds Rs. 5,000. But, NCDs taken in the demat form will not attract any TDS on the interest income.

Profile & Financials of India Infoline Finance Limited

India Infoline Finance Limited is a credit and finance arm of the India Infoline Limited group and provides loan against property, housing loans, gold loans, commercial vehicle loans, loan against securities/margin financing and medical equipment financing to its corporate clients as well as retail clients.

IIFL has a strong network of 1,403 branches all over India and has a total loan portfolio outstanding at Rs. 9,464 crore as on June 30, 2013. The loan book of the company has grown at a CAGR of 79.3% over the last three years.

Total income, on a consolidated basis, registered a growth of 82%, from Rs. 954 crore for the period ended March 31, 2012 to Rs. 1,737 crore for the period ended March 31, 2013. Net profit for the same period registered a growth of 80%, jumping from Rs. 105 crore to Rs. 189 crore. Net interest income (NII) also jumped 81%, from Rs. 429 crore to Rs. 776 crore.

As far as its asset quality is concerned, the company has done a reasonably good job in a difficult economic environment. Gross NPAs of the company as on March 31, 2013 stood at 0.49% as compared to 0.56% as on March 31, 2012, while Net NPAs were at 0.17% as against 0.40%. Net NPAs to net worth ratio improved from 1.84% to 1.03% during the same period.

You can check the financial results of IIFL for FY 2012-13 from this link.

Previous Years’ IIFL NCDs

NCDs issued last year and in 2011 are trading at a yield higher than the coupon rates offered by the company in the current issue, except its N1 NCDs. You can check the yields and their respective prices from the table below:

So, going by the yields of its previous issues, I think it is better to buy IIFL’s NCDs from the secondary markets.

Comparison of NCD/Bond Issues open for subscription

If you want to make some investment in any of the NCDs or bonds which are open for subscription, then here are four such options – IIFL 12% NCDs, SREI 11.50% NCDs, Muthoot 12.25% NCD and REC 8.71% Tax-Free Bonds. The table below has some features which are comparable to these four issues. I have taken 36 month, annual interest options for the first three issues to make them comparable.

Though REC bonds issue is the odd one out, but then it makes the investors think why or why not tax-free bonds. If I were to invest in any of these four options, I would have gone for REC tax-free bonds, due to its safety, liquidity, tradability, tax-free interest, long duration, scope of capital appreciation, high institutional demand etc. Which one would you go for?

Link to Download the Application Form

Sources of India’s Foreign Exchange Reserves

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

India has seen an unprecedented fall in the value of its currency against the widely used global currency US dollar in the last couple of months. Analysts, experts, finance ministry, RBI, all are blaming high current account deficit (CAD) for the rupee fall.

To save the value of rupee somewhat by squeezing its supply and increasing the supply of dollar, the Reserve Bank of India (RBI) sometimes sell dollars in the open market. This action of RBI reduces our forex reserves and thus becomes one of the factors for such a reduction.

On September 3rd, Mr. Ramamurthy asked me how the RBI or the Government has raised these reserves over all these years, despite we having a higher import figures against the export numbers, thus always resulting in current account deficit (CAD) and never a current account surplus.

Here is his comment.

Ramamurthy September 3, 2013 at 12:07 pm

Shiv

RBI or Govt is supposed to be having a Dollar reserve.I dont know the exact amount.

But I would like to know how RBI have accumulated this amount? I thought India never had a favourable CAD respect of Dollars.Imports were always in excess of exports.

Let us understand it, we spend dollars on our imports and get dollars for our exports. Actually, current account deficit (or total imports > total exports) is just a part of our overall foreign exchange standing. There are many other sources which affect our forex reserves either positively or negatively.

India’s foreign exchange reserves as on September 11, 1998 were at $29.048 billion, which on August 30th, 2013 stand at $275.49 billion, a jump of $246.442 billion or approximately 848% in 15 years’ time. RBI releases this figure every Friday, for the reserves held on the preceding Friday. If any of you wants to have the week-wise data of India’s historical forex reserves, you can visit this page of RBI to check it.

On July 27, 2013, the RBI released India’s Balance of Payments (BoP) data for financial year 2012-13. Here is the RBI’s Press Release regarding that. It lists the “Sources of Variation in Foreign Exchange Reserves” and I will try to explain these sources in a simple language to the best of my abilities.

I. Current Account Balance (= -$88.2 billion) – Current Account Balance is nothing else, but it is the other name of our Current Account Deficit or Current Account Surplus, as the case may be. If it is positive, then we call it a surplus and if it is negative, then we call it a deficit. It is calculated by adding our balance of trade, factor income (interest and dividends from international loans and investments) and net transfer payments.

Balance of trade (or trade balance) is the most significant component of our Current Account. It is calculated by deducting India’s total imports of goods and services from its total exports of goods and services. For FY 2012-13, our current account deficit (CAD) stood at negative $88.2 billion or 4.8% of India’s GDP.

II. Capital Account (net) (= $92 billion) – To finance a country’s current account deficit, it is very important for the government to encourage international capital flows into the country. All the foreign money which flows into India or Indian money which flows to some other countries, in the form of capital investments, gets counted under capital account. What are the sources of India’s capital account? Here we have it:

a. Foreign Investment (= $46.7 billion)

(i) Foreign Direct Investment (FDI) (= $19.8 billion) – FDI refers to an investment made by a foreign entity into India that involves establishing operations or acquiring tangible assets, including stakes in other businesses. Here, the investor seeks to control, manage or have significant influence over its Indian operations, either by establishing its own subsidiary or entering into a joint venture with an Indian entity.

(ii) Portfolio Investment (= $26.9 billion) – This refers to a passive investment by a foreign investor in Indian securities such as stocks, bonds or other financial assets, none of which entails control, active management or significant influence of the issuer by the investor.

Foreign Institutional Investments (FIIs) – Overseas institutional investors investing in Indian securities, either debt, equities or other financial assets listed here in India, comes under foreign institutional investments.

ADRs/GDRs – Foreign investors can also invest in an Indian company through the purchase of American Depository Receipts (ADRs) or Global Depository Receipts (GDRs). ADRs or GDRs are essentially negotiable instruments, denominated in US dollar or any other currency, representing a publicly-traded issuer’s local currency equity shares.

b. External Commercial Borrowings (ECBs) (= $8.5 billion) – ECBs are money borrowed by Indian corporates from foreign sources in the form of commercial loans, credits, notes, bonds or preference shares. ECBs open another avenue of credit at lower international rates for Indian commercial borrowers.

c. Banking Capital including NRI Deposits (= $16.6 billion) – It includes foreign assets and liabilities of commercial banks, including NRI deposits, foreign currency holdings etc. and movement in balances of foreign central banks and international institutions like Asian Development Bank, International Bank for Reconstruction and Development, International Development Association etc.

d. Short-Term Trade Credit (= $21.7 billion) – It refers to either suppliers’ credit, extended by the overseas suppliers, or buyers’ credit, arranged by the importers themselves from a foreign bank or financial institution, for imports into India. Short-term credit has a maturity period of less than 3 years. If the maturity period is more than 3 years, then it comes under ECBs.

e. External Assistance (= $ 1 billion) – It refers to multilateral and bilateral loans given to India by foreign governments and loans given by India to foreign governments.

f. Other Items in Capital Account (= -$2.4 billion) – These are miscellaneous items of capital account, whose value is not of any major significance.

III. Valuation Change (= -$6.2 billion) – When the US dollar appreciates against other global currencies including Indian Rupee, it results in a “Valuation Loss” for India’s forex reserves and when the dollar depreciates, it results in a “Valuation Gain”.

As India has grown at a rapid pace in the past and is expected to maintain this growth chart in the coming couple of decades, foreign investors have been pouring money here to reap the benefits of this growth and that is how India has enjoyed a major uptick in its foreign exchange reserves. To maintain the value of rupee and thereby our forex reserves, India is required to become innovative, competitive and efficient. It is required to win foreign investors’ trust and thereby become a reliable partner in its future growth.

Fixed Maturity Plans aka FMPs – Favourable Factors & Checklist for the Investors

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

Of late, the market has been flooded with fixed maturity plans (FMPs). In fact, I have never seen such a huge number of FMPs getting launched in such a short span of time and that too with a variety of tenors going up to 5 years.

Mutual Fund houses, which have seen a big dip in their assets under management (AUMs) in the past couple of months due to huge outflow of money from their debt fund schemes, especially liquid funds, do not want this money to flow out of the mutual fund industry.

As the short-term interest rates have risen quite sharply during this period, these mutual fund companies are launching FMPs of shorter duration, like one month and three months and also of one year, in huge numbers with quite attractive indicative yields.

What is so attractive about these FMPs?

High Interest Rates: As mentioned above, fixed maturity plans are offering high indicative yields these days due to a sudden spike in interest rates, especially short-term interest rates. Though the market regulator SEBI has disallowed it to disclose the indicative yields of FMPs, some of the fund houses are privately quoting it to be in the range of 9.60% to 10.60% for 1 year period, which is quite attractive.

Ranged Indicative Yield: FMPs usually invest in certificates of deposits (CDs), commercial papers (CPs), NCDs and other securitized debt. As per SEBI regulations, an FMP cannot invest its money in instruments with maturity greater than the maturity of the FMP itself. Also, the mutual fund companies need to disclose it in the scheme’s offer document, in which all instruments it is going to invest the scheme’s corpus.

So, taking a cue from its planned investment in these instruments, the management team of an FMP is able to provide an indicative yield to be expected out of this scheme. The returns at the time of maturity are very close to this indicative yield, if the scheme does not suffer any credit default. So, unlike open ended mutual fund debt schemes like gilt funds, income funds or short-term funds etc., there is no uncertainty with regards to the holding period returns of these FMPs.

Fixed Maturity: As FMPs are closed-ended funds and get matured after some definite maturity period, their investors know well in advance when they are going to get their money back. Like bank fixed deposits, there is no uncertainty with regards to their holding periods.

Taxation Rules for FMPs – Before I proceed further with the positive points of FMPs, we first need to know the taxation rules applicable to FMPs.

Growth Option – FMPs, if held for more than one year, would fall under long-term capital gain tax and are taxed at 20% with indexation or 10% without indexation, whichever is less. If the holding duration is equal to or less than one year, then FMPs would attract short term capital gain tax and will be taxed at the slab rate of the investor.

Dividend Option – Dividends announced by the mutual fund houses for these FMPs are tax-free in the hands of the investors, but are subject to dividend distribution tax (DDT) of 28.325% i.e. 25% tax + 10% surcharge + 3% education cess.

Indexation or Tax Benefits: ‘Indexation’ or ‘Double Indexation’ benefit is one thing which makes these FMPs score highly over bank fixed deposits. Double-Indexation benefit accrues to those FMPs which run over to 3rd financial year. If an FMP is bought at the lag end of 1st financial year and gets matured in the beginning of 3rd financial year, then it makes your capital gains virtually tax-free.

Let me explain it to you: Say, you invest in an FMP at the NAV of Rs. 1,000 on September 5, 2013 and it matures on April 5, 2015, earning for you a return of say 15% in one and a half years. Cost inflation index for 2013-14 is ‘939’. Let us assume it comes out to be ‘1014’ for 2014-15 at 8% inflation and ‘1085’ for 2015-16 at 7% inflation. Then, your indexed cost of acquisition for your FMP would be Rs. 1,000 * 1,085 / 939 = Rs. 1,155 and the long term capital loss would be Rs. 1,155 – Rs. 1,150 = Rs. 5. So, there is no need to pay any tax on the gain of Rs. 150.

Even single indexation benefit makes taxation of these FMPs quite favorable and quite close to getting tax-free, if your holding period is close to 1 year plus i.e. 370 days or 368 days or 371 days etc.

Taking the above case forward for single indexation benefit, let us take the maturity date to be September 10, 2014 and one year return to be 10%. Cost of acquisition comes out to be Rs. 1,000 * 1014 / 939 = Rs. 1,080 and the long term capital gain would be Rs. 1,100 – Rs. 1,080 = Rs. 20. On this investment, capital gain tax would be either Rs. 4 i.e. 20% of Rs. 20 or Rs. 10 i.e. 10% of Rs. 100, whichever is less. So, the tax is Rs. 4 and your effective return would be 9.60%.

Factors to keep in mind while investing or selecting a fixed maturity plan (FMP) – Though FMPs are launched by different fund houses and probably have similar maturity period, say 370 days, but their portfolio investments may differ quite a lot. Here are the pointers which you should keep in mind while going for an FMP:

Where your money is getting invested – It is very important to know to whom your money is getting lent. This is what the scheme’s fund management is doing on your behalf. As per the SEBI regulation, the scheme’s offer document must have the details about the type of securities it intends to invest into.

As the corporate profitability is on a decline amid economic gloom, FMPs have started avoiding the riskier sectors in which they foresee some probability of a credit default, like real estate, airlines, gems and jewellery etc.

Credit rating of the securities – You should also check the scheme’s offer document for the minimum credit rating of the securities the fund management intends to invest into. The investors should also note that the higher the credit ratings of their securities, the lower the returns would be for the FMPs.

FMPs of shorter duration, like 30 days, 90 days or up to 370 days, typically invest in CDs issued by some of the banks or CPs issued by some of the corporates. FMPs of longer duration, like 1875 days, 1820 days or 1095 days, typically invest in NCDs issued by some of the corporates. CDs are considered the safest among these instruments as many of these CDs get issued by PSU banks and normally carry higher credit ratings like ‘AAA’ or ‘AA+’ depending on the issuer banks. CPs and NCDs normally carry lower credit ratings of ‘AA’ or ‘AA-’.

Let us take a look at the “Intended Portfolio Allocation” of Birla Sun Life Fixed Term Plan – Series HV, an FMP of 368 days, opened on September 2nd and closes on September 5th.

Expense Ratio of the scheme – These days mutual fund houses are attracting distributors to promote their long-term FMPs by offering them high distribution commissions. These high commissions they do not pay from their own pockets. These are charged from the investors’ money only. So, you should select a scheme which has a reasonable expense ratio as per the tenor of the FMP.

FMPs are tradable but closed-ended schemes – As per SEBI regulation, FMPs now get listed on the stock exchanges and are tradable at their respective NAVs. But, as there is not enough number of interested buyers and FMPs are closed-ended schemes, FMPs normally trade at a discount to their fair values and this should be kept in mind while investing in FMPs. Investors should choose these FMPs as per their time horizon and then should stay invested till their maturity to realize their full potential.

Investor’s Tax Bracket – Investors with zero tax liability or who are in the 10% tax bracket do not gain much from the tax differential between FMPs and FDs and that is why it is better for them to invest in FDs or NCDs themselves as compared to FMPs. It is the investors in the 30% or 20% tax bracket who gain maximum by investing in FMPs.

Equity markets are extremely volatile and interest rates are ruling higher, these two things set a perfect pitch for FMPs to gain investors’ confidence. But, turbulent times can affect financial condition of corporates quite badly and force some of them to default on their credit payments. So, it is always advisable to the investors to keep their portfolios well diversified with investments in various asset classes and also sub-heads of those asset classes.