Debt Markets in India

DEBT MARKETS JOURNEY POST BUDGET

Sunil Jhaveri — Wed, 03 Mar 2010 07:30:18 +0000

I have not written on debt markets since almost January 2010 post the Credit Policy Review. One of the reasons was that I was waiting for the announcement of Budget and subsequent borrowing calendar. I had hoped that we will have a clear path in debt markets based on the Budget announcements and borrowing calendar announcements.

However, this event (read Budget) has had an effect of creating more ripples in an otherwise calm market. There have been many announcements (like petrol price hike, excise duty hike, etc) which will impact inflation & debt markets in the short run but will go a long way in improving fiscal deficit numbers in the long run.

Let us analyse the debt market situation of last couple of years v/s what is likely to be going forward:

There was Fiscal stimulus announcements followed by expansionary monetary policy measures over past couple of years to fight the slowing down economy
Monetary policy measures included aggressive rate cuts alongwith reduction of CRR
Inflation had actually gone into near zero/negative territory for quite a major portion of the year
To counter huge borrowing programme due to Fiscal Stimulus package, RBI had a clear OMO calendar to ensure smooth sailing of these auctions
There was huge liquidity overhang of more than Rs.1 lac cr due to aversion to taking risk, economic slowdown & subsequent lack of credit offtake

As against the above, going forward debt markets will have to weather following hurdles:

Fiscal stimulus roll back (though good from the point of view of better revenue collection figures) of hike in excise duty to add fuel to already blazing inflation numbers
Petrol price hike (again excellent in the long run to reduce petroleum subsidy & fiscal deficit numbers), extremely inflationary in the short run
Hike in CRR by 75 bps in last policy review will put premium on liquidity going forward. Reverse REPO figures have come down from nearly a high of Rs.1 lac cr to currently at close to Rs.30,000 crs & likely to reduce further post the advance tax outflows on March 15
Due to hike in CRR, very unlikely that RBI will have a definite OMO calendar (which will be counter productive to this hike). Hence, a huge borrowing programme without any support from RBI (in terms of giving back liquidity to the market through OMO) will be very difficult task for the debt markets
To top it all, old benchmark 6.35% 2020 will be phased out soon making it illiquid as auctions going forward will be of new benchmark papers. Almost Rs.45-50,000 crs of old benchmark will come up for trading; thereby putting downward pressure on its pricing
Inflation likely to go beyond RBI estimates of 8.50% & may peak off at around 10%; thereby forcing RBI to increase benchmark rates in April 2010 policy review. Inflation can only settle around 5% mark somewhere in August/September due to base effect coming into play
RBI has clearly indicated that the borrowing calendar would be front loaded & almost Rs.3.50 lac crs would be borrowed in the first six months, which is almost Rs.50,000 crs p.m., which is almost Rs.10-12000 crs every week. Hence, borrowing calendar week on week will be similar to last year’s except for the comfort of having an OMO calendar to support the weekly auctions
Another uncertainty which can creep in going forward is the state of monsoon. If we have a similar year as last year wherein the monsoon was erratic with drought like situation in certain areas (main reasons for extremely high food inflation in the current year), debt markets will have no respite from the already heavy burden of huge borrowing calendar (without any monetary measures support from RBI)
Also there is demand/supply mismatch in the Fiscal 2010-11 in favour of supply which can drag G sec prices down
Only with lowering Fiscal numbers & growing GDP numbers in subsequent years will this be corrected & go in favour of more demand & less supply over next couple of years

Taking into account the above factors one would be best advised to stay away from taking any long term investment calls in the debt markets at current levels. Interest rates have started hardening both at the shorter end (more so in this segment of the yield curve) as well as on the longer end. 1 year CDs which were quoting at 5.75% in January 2010 have already hardened to 7% plus in a very short span. 5 year AAA Corporate Bonds’ yield has hardened to 8.75% from a low of 8.40% pre Budget & 10 year benchmark has marginally gone up from 7.80% to 7.90-7.95%.

With imminent hike in inflation numbers, there will be an imminent rate hike in the near future. Add to this the liquidity woes & huge weekly borrowing calendar; benchmark rates in such a scenario can breach 8% mark soon & may hover between 8.25% to 8.50% levels in the near future. Hence, instead of trying to outguess RBI moves or debt markets, one can safely invest in say 3 month FMPs at or around 6% levels, go beyond March 2010 & let inflation peak off somewhere at 10% levels between April & June 2010 before taking a long term call on debt markets at those levels.

Both for technical (good opportunity to invest at higher yields as well as lower borrowing programme in second half) & fundamental reasons (base effect on inflation bringing the inflation numbers to around 5% in August/September 2010) it will make an immense sense to invest in long term Income/GILT schemes at that point in time.

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ARTICLE IN ECONOMIC TIMES DELHI

Sunil Jhaveri — Wed, 24 Feb 2010 10:17:05 +0000

Article in Economic Times Delhi SOURCE : Economic Times – Delhi – Page 11...
Article in Economic Times Delhi ...

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SWP from MIP-A Powerful Investment Strategy

Sunil Jhaveri — Thu, 04 Feb 2010 12:15:57 +0000

Every year combination of rising inflation, volatile debt & equity markets & lower/ higher interest yields is creating havoc in portfolios of an individual. An investor who wishes to have regular flow of income; be it a retail, HNI, Pensioner or a Senior Citizen is at a loss as to how to plan their day to day expenditure with a matching or higher yielding investment portfolio. Either they have to keep on reshuffling their asset classes to make their ends meet or take unnecessary risk in their portfolio (with no guarantee of it giving positive returns at the end of the year) to earn that extra bit of money.

Other alternative is parking their funds in Fixed Deposits with some assured returns but a very tax in efficient vehicle (as the investor will have to pay full tax on interest). Also, in FDs, funds get stuck for a period of time like 1/2/3/5 years & hence, the investor loses on liquidity as well. Also, the principal amount at the end of the FD tenor does not appreciate & the investor gets back the same amount which he/she would have invested at the beginning of the period. Also, many times these returns do not even beat the inflation.

In such a scenario, the investor who wishes to earn a regular income is at a tremendous loss in terms of options available to him to earn regular income to meet his day to day expenses. However, one strategy that can help an investor overcome all the above viz:

Have regular & assured flow of income
Make these withdrawals tax efficient &
Have a possibility of enhancing the overall portfolio value (over a period of time)

Is SYSTEMATIC WITHDRWAL PLAN from well managed MONTHLY INCOME PLANs. This tool, besides being an extremely tax efficient way of having regular cash flow for the investor also has a capability of enhancing the overall portfolio value (if managed well & withdrawals of the investor on an ongoing basis is less than the overall returns of the scheme i.e. if the scheme has performed say 12% p.a. in one year & the investor has only done SWP of say 8.50% p.a.; then the investor besides withdrawing regular sums through SWP is also enhancing their overall portfolio value).

Following analysis of two of the best managed MIPs viz. Reliance Monthly Income Plan & ICICI Prudential Monthly Income Plan will show case how SWPs score over traditional FDs in terms of returns & tax efficiencies over a period of time. The way the following table are designed are based on an original investment value of Rs.10 lacs at their respective NAVs & SWP @8.50% p.a. i.e. Rs.7100/- p.m. :

It will show the original investment value of Rs.10 lacs as on say Jan 2001 or Jan 2008 at the NAVs prevalent on those dates
It will show the values one year hence with tax implications on SWP & on FDs
It will show value as on the current date i.e. January 2010 with total withdrawal from say Jan 2001 to Jan 2010/ Jan 2008 to Jan 2010,etc, with long term/short term capital gains tax on SWP & assuming the same returns in FD, its current value and tax implications on the same
Most of the years & observations , you will notice that on Year on Year basis (inspite of SWP @8.50% p.a./i.e. Rs.7100/- pm) your principal is either higher or marginally lower (2008 year

being an exception as equity markets had collapsed in that year) from the start & the investor has paid very little tax compared to tax implications on FD interest

Most of the years even on cumulative basis from say 2001 to 2010 or 2008 to 2010,etc years, the current value of your investments in MIPs (inspite of having SWP @8.50% p.a.)is higher than when the investor had started with. This also with much lower tax implication (assuming that the investor is redeeming from MIP in Jan 2010) than what he would have ended up paying as tax on similar interest rate on FDs
Reliance MIP data is from 2001 as the said scheme’s date of inception was November 2000 & that of ICICI Prudential is from January 2004:

ANALYSIS OF RELIANCE MIP SINCE JAN 2001:

FROM		VALUE	SWP	TOTAL SWP	TAX IMPLICATION ON SWP & REDEMPTION IN JAN 2010
Jan-01		1000000	7100
Jan-02	Y ON Y	1,025,196		85,200	1526
Jan-10	CUMULATIVE	1,142,011		766,800	41161
IF INVESTED IN FD		VALUE	INTEREST
Jan-01		1000000	7100
Jan-02	Y ON Y	1000000		85,200	25560
Jan-10	CUMULATIVE	1000000		766,800	230040

As can be seen from above on Y on Y i.e. from Jan 2001 to Jan 2002 value of your MIP after Rs.85,200/- as SWP is worth Rs.11,42,011 with tax implication of only Rs.1,526 v/s tax implication of Rs. 25,560/- in FDs . On cumulative basis since Jan 2001 till Jan 2010, an investors has don an SWP of Rs.7,66,800/- having total tax implication of Rs.41,161/- (including Short Term & Long Term & again assuming that the investor is redeeming from MIP at CV of Rs.11,42,011/-) v/s same interest of Rs.7,66,800/- on FD having an a tax implication of Rs.2,30,040/-.

ANALYSIS OF RELIANCE MIP SINCE JAN 2008: YEAR WHEN EQUITY MARKETS CRASHED:

FROM		VALUE	SWP	TOTAL SWP	TAX IMPLICATION ON SWP & REDEMPTION IN JAN 2010	CV WITH TAX IMPLICATIONS & WITHDRWALAS
Jan-08		1000000	7100
Jan-09	Y ON Y	896,969		85,200	0
Jan-10	CUMULATIVE	916,047		170,400	0	1086447
IF INVESTED IN FD		VALUE	INTEREST
Jan-08		1000000	7100
Jan-09	Y ON Y	1000000		85,200	25560
Jan-10	CUMULATIVE	1000000		170,400	51120	1119280

As can be seen from above on Y on Y i.e. from Jan 2008 to Jan 2009 value of your MIP after Rs.85200/- as SWP is lower at Rs.8,96,969/- with no tax implication (due to loss). However, on cumulative basis from Jan 2008 to Jan 2010, value of your MIP has grown to Rs.9,16,047/- with no tax implication (due to losses). Total value of your investment in MIP plus withdrawal is Rs.10,86,447/- v/s total value of FDs plus interest less tax is marginally higher at Rs.11,19,280/-

ANALYSIS OF ICICI PRU MIP SINCE JAN 2004:

FROM		VALUE	SWP	TOTAL SWP	TAX IMPLICATION ON SWP & REDEMPTION IN JAN 2010
Jan-04		1000000	7100
Jan-05	Y ON Y	965,706		85,200	450
Jan-10	CUMULATIVE	1,215,317		511,200	33762
IF INVESTED IN FD		VALUE	INTEREST
Jan-01		1000000	7100
Jan-02	Y ON Y	1000000		85,200	25560
Jan-10	CUMULATIVE	1000000		511,200	153360

As can be seen from above on Y on Y i.e. from Jan 2004 to Jan 2005 value of your MIP after Rs.85,200/- as SWP is worth Rs.9,56,706/- with tax implication of only Rs.450/- v/s tax implication of Rs. 25,560 in FDs . On cumulative basis since Jan 2004 till Jan 2010, an investors has done an SWP of Rs.5,11,200/- having total tax implication of Rs.33,762/- (including Short Term & Long Term & again assuming that the investor is redeeming from MIP at CV of Rs.12,15,317/-) v/s same interest of Rs.5,11,200/- on FD having a tax implication of Rs.1,53,360/-.

ANALYSIS OF ICICI PRU MIP SINCE JAN 2008: YEAR WHEN EQUITY MARKETS CRASHED:

FROM		VALUE	SWP	TOTAL SWP	TAX IMPLICATION ON SWP & REDEMPTION IN JAN 2010
Jan-08		1000000	7100
Jan-09	Y ON Y	1,001,096		85,200	0
Jan-10	CUMULATIVE	1,115,173		170,400	12108
IF INVESTED IN FD		VALUE	INTEREST
Jan-08		1000000	7100
Jan-09	Y ON Y	1000000		85,200	25560
Jan-10	CUMULATIVE	1000000		170,400	51120

As can be seen from above on Y on Y i.e. from Jan 2008 to Jan 2009 value of your MIP after Rs.85200/- as SWP is at Rs.10,01,096/- with no tax implication v/s similar interest on FD of Rs.85,200/- having a tax implication of Rs.25,560/-. However, on cumulative basis from Jan 2008 to Jan 2010, value of your MIP has grown to Rs.11,15,173/- with tax implication of Rs.12,108/- after SWP of Rs.1,70,400/- v/s same interest of Rs.1,70,400/- on FD having tax implication of Rs.51,120/-

CONCLUSION:

Over longer period of time under SWP, there are chances of withdrawing a decent sum of money at a reasonable rate of yield every month without the overall value going negative with lesser tax implication than if you would have earned the same returns in FDs over the same period
Though over shorter periods of time (when equity markets are not doing well); an investor might dip into his principal for some time, good performance in equities at a later date will more than make up for that dip with greater tax efficiency
Hence, the said strategy of SWP (assuming a reasonable yield of between 7-8% p.a.) through well managed MIPs can be an effective way of having a regular cash flow without much downside (if at all there might be upside) over longer period of time with much greater tax efficiency
SWP should be preferred even over monthly or quarterly dividend payouts as dividend payouts attract DDT at 14% for individual & 22% for corporate (v/s only 2-5% tax outflows under SWP). As can be seen from tables above, there is minimal tax outgo if one adopts SWP rather than receiving dividends or interest

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Article in Economic Times Delhi

Sunil Jhaveri — Wed, 03 Feb 2010 07:23:02 +0000

Article in Economic Times Delhi SOURCE : Economic Times – Delhi – Page 11...
ARTICLE IN ECONOMIC TIMES DELHI ...

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New Guideline by SEBI for Debt and Money Market Instruments

Sunil Jhaveri — Tue, 02 Feb 2010 12:37:59 +0000

Please refer to my note on Templeton Floating Rate Fund. I had referred to SEBI’s new guidelines for valuing securities which was in the pipeline and was expected to come into effect from 1st April 2010. SEBI has today come out with a notification to that effect which is going to come into effect from 1st July 2010.

Just wanted to bring this to the notice of all my esteemed investors.

Hence one part of the expectation which was going to impact liquid plus schemes is already in place. Another negative impact will happen if and when DDT on debt schemes is increased from 22% to 28%.

Please click here for the original notification

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