Why do people remember investing in ELSS only in the last quarter of the year?

Historically, we have observed a very peculiar behaviour from investors. In fact, tax-savers could be a better term than investors, going by the behaviour.Click on the link below to read my article on the subject:

Why do people remember investing in ELSS only in the last quarter of the year?

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The English translation is as under:

Recently, someone asked me whether one should consider investing in an ELSS – Equity Linked Savings Scheme – a mutual fund scheme that allows one to save tax under Section 80C of the Income Tax Act. I felt like checking the calendar to see which month it is. Historically, investors have inquired about these funds only in the last quarter of the year, or at best between December and March.

Let us look at some data:

Year	Gross inflow in ELSS in last quarter (Rs cr)	Annual gross inflow (Rs cr)	Last quarter's contribution in the year
2004-05	90	154	58.44%
2005-06	2257	3934	57.37%
2006-07	2855	4402	64.86%
2007-08	3873	6448	60.07%
2008-09	1248	3324	37.55%
2009-10	2001	3601	55.57%
2010-11	1696	3450	49.16%
2011-12	1132	2698	41.96%
2012-13	1311	2626	49.92%
2013-14	1382	2661	51.94%
2014-15	3932	8343	47.13%
2015-16	4407	9980	44.16%
2016-17	6677	14624	45.66%

The table above contains data regarding how much money was invested across the ELSS schemes by investors from across the country.

It is interesting to note here that the amount of money that was invested in the last quarter of the year, i.e. January-February-March was between 37% in 2008-09 to almost 65% in 2006-07. The last 25% of the year accounts for roughly 50% of annual business.

Look at the contribution of the month of March in the whole year.

Year	Contribution of March in annual business
2004-05	25.32%
2005-06	29.66%
2006-07	37.39%
2007-08	32.35%
2008-09	18.38%
2009-10	28.10%
2010-11	23.33%
2011-12	22.76%
2012-13	22.70%
2013-14	29.05%
2014-15	23.56%
2015-16	22.58%
2016-17	25.49%

Only one month, March accounts for more than 20% of annual sales.

What is happening here? Investors are delaying their tax planning decision to the end of the year.

This happens when we treat the money used for tax saving as an expense – it makes sense to defer expenses to the last moment. However, investing in ELSS is not an expense. It is primarily an investment, and then a tax saving avenue.

Also, since ELSS is a mutual fund scheme, we can use the facility of systematic investing (popularly known as SIP). This allows us to spread our investments over the year, which helps in two ways:

1.     There is no sudden large outflow in the last few months of the year, and

2.     We get the benefit of Rupee Cost Averaging, about which we have talked in our earlier articles on explaining SIP.

So, although we have lost the first month of the year, i.e. April, it is still time. Start your SIP in an ELSS scheme, if you are looking for an equity investment for long term growth coupled with tax saving.

- Amit Trivedi

PPF or debt mutual funds?

Now that the interest rate in PPF has come down and with the debt funds offering double digit returns, should one shift from PPF to debt mutual funds?

Click here to get the answer.

The English translation of the article is as under:

“Should I continue to invest in PPF at reduced interest rates or invest in debt funds to earn between 9% to 12%?” Asked someone recently.

Looking at the question, it seemed he is a keen follower of the financial markets. He was aware of the interest rates on PPF, which have been recently lowered as well as the returns generated by various categories of debt funds.

However, there is a small observation on what he observed. He was referring to what interest rate would be earned in future on the investments in PPF, the debt fund returns were those generated in the past. Aren’t high past returns sustainable? Aren’t professional fund managers supposed to generate high returns? Well, in order to get answers to these questions, it is important to understand the reason why past returns are so high.

As of November 7^th 2016, the returns generated by various categories debt funds are as under:

Fund category	1 year return (%)
Debt: Gilt Medium & Long Term	12.26
Debt: Dynamic Bond	10.85
Debt: Income	10.20
Debt: Credit Opportunities	10.18
Debt: Short Term	9.33

Data as on Nov 07, 2016

Source: www.valueresearchonline.com

As you can see, certain categories of debt funds have delivered handsome returns given that the interest rates last year were below 10% in bank deposits as well as Government Securities. So what caused the debt funds to deliver such returns?

In the last one year, there was one factor that positively impacted the investment returns – drop in interest rates. You may recall that we had covered the impact of interest rate changes on debt securities and hence on debt funds.

Interest rates and bond prices have an inverse relationship, i.e. when the interest rates drop, bond prices rise and vice versa. When the bond prices rise, the NAV of debt funds would also go up.

Now that is one of the components that contribute to debt fund returns. The other component is the interest rates earned on the bonds or debentures that fund has bought.

Let us take an example:

Say a mutual fund invested in the debenture of a company. The debenture was available for purchase for Rs. 1,000 and it carried interest rate of 9% p.a. After a year, similar debentures available in the market were offering interest of 8.5% p.a. The earlier bond looks more attractive due to higher interest rate. It is this increased attractiveness that results in rise in price.

The bond fund would have gained from two things, (1) the 9% interest earned on the bond, and (2) the rise in market price of the bond.

However, the moment the price goes up, the future earnings are now adjusted in line with the new interest rates, i.e. from now onwards, the earnings would be at the rate of 8.5% p.a.

In other terms, the future earnings gap between 9% and 8.5% has been adjusted in the current price of the bond giving a capital gain.

With such an adjustment already completed, the future returns would be a function of (1) current interest rates, and (2) any capital gain or loss on account of change in interest rates in future.

In the above example, the interest rates reduced giving rise to bond prices. If the interest rates in economy move up, the prices of bonds would go down.

For the bond funds to deliver such high returns as the past one year, the interest rates in the economy must drop further. Now that is something I cannot predict.

Keep your expectations low. The past returns may not be sustained in future. After having low expectations, if you get higher returns, enjoy.

At the same time, let us not forget some major benefits offered by debt mutual funds. These are:

·      Diversified portfolio

·      Professional management of the funds

·      Easy and convenient liquidity

·      Flexibility to invest in the same folio

·      Flexibility to redeem full or part of the investments

·      Tax efficiency

It is not just the investment returns, there are many other factors that one must keep in mind before taking an investment decision.

- Amit Trivedi

Equity investments simplified - a chat session on www.moneycontrol.com

I will handle questions on live chat scheduled on 19th September @ 4:00 PM on www.moneycontrol.com

Questions regarding mutual funds - answered during the chat session today on www.moneycontrol.com

Click on the link below to read the transcript of my chat today on Moneycontrol.

http://www.moneycontrol.com/news/mgmtinterviews/chats/detail_new.php?chatid=2667

It is important to understand the nature of investment and the risks associated before thinking of taxation

The other day I received a query from someone. This person was advised to invest his money in fixed income funds since the money was needed in around two years’ time. He wanted a second opinion.

His question was: “Should I not look at equity funds since the returns on fixed income funds would be taxable, whereas capital gains on equity funds after a holding period of one year would be exempt from long term capital gains tax. Similarly, I can also opt for dividend option, too as dividends are also tax-free.”

Here is my article published in Mid-day Gujarati today


The English translation is as under:

Should you invest in equity funds since these are more tax-efficient?

The other day I received a query from someone. This person was advised to invest his money in fixed income funds since the money was needed in around two years’ time. He wanted a second opinion.

His question was: “Should I not look at equity funds since the returns on fixed income funds would be taxable, whereas capital gains on equity funds after a holding period of one year would be exempt from long term capital gains tax. Similarly, I can also opt for dividend option, too as dividends are also tax-free.”

He quoted an oft repeated line “It is not what you make, it is how much you take home after taxes that counts”.

He was also convinced that equity funds have potential to offer higher returns that fixed income funds.

This combination of potential higher returns coupled with lower (zero, in this case) tax makes equity funds appear far superior to fixed income funds.

Both the arguments in favour of equity funds are right – potential for higher returns and that the tax-efficiency is far superior. What is missing here is the risk involved. The risk is very high that even a well managed and well diversified portfolio of equity shares may lose value periodically. Though such drops in value may be temporary, they do exist and sometime for long periods of time.

It is this risk that should be considered first before worrying about paying taxes. Many investors make this mistake of looking at the taxation first. This results in highly tax-efficient but sometimes highly risky portfolios. It is not just in case of equity, we have seen this fascination towards saving tax in many other areas of personal finance. However, we shall restrict our discussion in this article only to the question we started with.

While equity funds have the potential for providing higher returns than fixed income funds, such a statement is more likely to be true if the holding periods are long. The price fluctuations in the short term would render the fund vulnerable. One is likely to experience a highly volatile NAV in case of an equity fund as compared to a fixed income fund.

These fluctuations may result into a situation that the value of investments could be lower when one needs money. Our investor had a need for taking money out of investments in around two years.

To answer the investor above, what he was advised was the correct investment option. With a two year investment horizon, it is prudent to invest in fixed income funds. To put it another way, it would be too risky to consider investing in equity funds if the investment horizon is two years.

Consider the nature of investment first – the risk involved before you look at the taxes.if the value of the portfolio is down at the time of redemption, there would be no taxed, anyway. It is often better to pay taxes on investment income than to see a situation when the investment loses money.

Use equity funds for your long term needs and fixed income funds if the need is short term in nature.

-        Amit Trivedi

The author runs Karmayog Knowledge Academy. Recently, Amit has authored a book titled “Riding the Roller Coaster – Lessons from Financial Market Cycles We Repeatedly Forget”. The views expressed are his personal opinions.