How to benefit from falling interest rates?

Current scenario:

RBI in its recent monetary policy review has talked about reducing repo rates in early 2015 thanks to softening inflation.  Taking cue from the RBI statement, the bonds have rallied over the last 3 days.   The benchmark 10 year GSec has fallen from 8.07% and currently trading at 7.97%. Conversely, we can say the price of the bonds have gone up thereby pushing the yields down.

You would have also read about SBI, ICICI Bank and HDFC Bank reducing deposit interest rates recently. Already, Kotak and IndusInd Bank have reduced the interest rates on their famous high yielding SB accounts.

So what it means to you and me?

It means the interest what you get now on your bank fixed deposits will start moving down.  And hopefully, the interest we pay on our home loan and car loan also starts moving down over time.

Is there a way we can take advantage of the falling interest rates?

Yes, we can by getting in to debt mutual funds, which invests in bonds and debentures.

The characteristic of any bond is that it pays a fixed interest rate for the tenure of the loan irrespective of the prevailing interest rate in the economy.  This is called as coupons.

In a falling interest rate scenario, this leads to increase in the price of the bond.  This is called capital appreciation.

In case of debt mutual fund, which specializes investing in bonds and debentures, they would be able to augment the returns to their investors by adding small doses of capital appreciation to the regular coupons.

Can we not do it with Bank deposits?

No.  Bank fixed deposits are not traded in the market.  Secondly, there is no price appreciation in the bank deposits for investors because there is no market.

What you need to do?

You should consider moving a portion of your bank fixed deposits in to debt mutual funds.

Investors can look at moving in to short term debt funds or accrual based debt funds.  Remember, you should be holding it for at least 3 years to claim preferential tax treatment.

These funds will give you better than fixed deposit returns over the next 3 years with added tax efficiency. 

What are you waiting for?  Reach out to us and we can help you pick the right fund for you.