Make Your Short-Term Money Count

Hemant Rustagi
Chief Executive Officer, Wiseinvest Advisors 

It is heartening to see an increasing number of investors following a disciplined investment approach and planning investments to achieve their financial goals over determined time horizons. However, we witness across the wider investor fraternity that they neglect committing due allocations towards creating an emergency fund which we fell is quite necessary. Also, people tend to maintain sizable amounts in their savings bank accounts for long periods despite having a clear idea that it would be required only at at a future date to fulfill a specific expense. Such amounts should better be invested in instruments yielding far better returns than saving accounts and thereby not lose out on an opportunity to earn healthy returns.

Investors should ideally look beyond traditional options to park their money over the shorter-term. Mutual funds offer a variety of options that have the potential to offer relatively higher returns and that too without compromising on liquidity and safety. There are varied MF schemes whose portfolios comprise of assets having short term maturities like overnight funds, liquid funds, ultra short duration funds, low duration funds and money market funds. While overnight funds invest in overnight securities having maturity of 1 day, liquid funds invest in debt and money market securities with maturity of up to 91 days. Similarly, ultra short duration funds maintain investment assets typically maturing over 3-6 months and low duration funds invest in securities with a maturity of 6-12 months.

Of course, with these being market linked products, one is exposed to the attendant risks of volatility as well as default in varying degree subject to the nature of the investment portfolio. However, if funds are selected based on one’s time horizon, the risk of volatility can be tackled to a large extent. SEBI’s governance and some recent guidelines recently issued by it do make these funds relatively safer, albeit with some compromise on returns. It is equally important to choose the right option i.e. growth or dividend reinvestment/payout to improve tax efficiency of returns.

For investors falling in higher tax slabs, there is another option in the form of arbitrage funds. An arbitrage fund is an equity oriented scheme that seeks to generate risk free income through arbitrage opportunities emerging out of variations in asset prices at a given time across different markets/exchanges or between the cash market and the derivatives market. Simply put, arbitrage funds capture the "interest" element in the equity market and offer an opportunity for investors to earn healthy returns, without being exposed to risks arising out of market volatility. Although arbitrage funds fall in the category of equity funds, they are not risky. For instance initiating a long position in the cash market and simultaneously taking a short futures position at a higher price assures a fixed locked-in return.

For tax purposes, arbitrage funds are considered as equity funds and hence any short-term capital gains i.e. any gains on investments redeemed within 12 months are considered as short-term capital gains and are taxed at a flat rate of 15 per cent. Long-term capital gains, that is, gains on units redeemed after 12 months are taxed at 10 per cent. The dividend distribution tax (DDT) paid by equity and equity-oriented funds is 10 per cent as against 25 per cent by debt and debtoriented funds. In addition, funds have to pay the applicable cess and sur-charge.

Investors must know that there are pros and cons of investing in these funds. While arbitrage funds have the potential to provide healthy returns irrespective of market trends, that too with a reasonable degree of safety and in a tax efficient manner, a depressed stock market may not provide enough opportunities for an arbitrage fund. Besides, it is not necessary that on the day of expiry the price of the stock and its future contract will coincide.

For investment to be made with a time horizon of more than one year and less than three years, equity savings schemes, can be an ideal option. These schemes invest in a combination of debt, arbitrage and equity in such a manner that exposure to equity is capped at around 20-25 per cent and the aggregate of arbitrage and equity is more than 65 per cent, which qualifies them to be an equity fund for tax purposes.