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Ramalingam

Ramalingam Kalirajan  |11045 Answers  |Ask -

Mutual Funds, Financial Planning Expert - Answered on May 26, 2024

Ramalingam Kalirajan has over 23 years of experience in mutual funds and financial planning.
He has an MBA in finance from the University of Madras and is a certified financial planner.
He is the director and chief financial planner at Holistic Investment, a Chennai-based firm that offers financial planning and wealth management advice.... more
Nitiksha Question by Nitiksha on Sep 06, 2023Hindi
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How do interest rate changes affect my return from Debt Funds?

Ans: Understanding the Impact of Interest Rate Changes on Debt Funds

Interest rate changes can significantly influence the returns generated by debt funds. Let's delve into how fluctuations in interest rates affect your investments in debt funds and how you can navigate these changes effectively.

Interest Rate Dynamics and Debt Funds Performance

Interest rates play a pivotal role in determining the performance of debt funds. When interest rates rise, bond prices fall, leading to capital losses for existing bondholders. Conversely, when interest rates decline, bond prices rise, resulting in capital gains.

Impact of Rising Interest Rates

Capital Losses: Existing bonds with lower coupon rates become less attractive compared to newly issued bonds with higher coupon rates. As a result, the market value of existing bonds decreases, leading to capital losses for investors.
Reduced NAV: The Net Asset Value (NAV) of debt funds tends to decline as bond prices fall due to rising interest rates. Investors may experience a decrease in the value of their investments.
Lower Returns: Rising interest rates can result in lower overall returns from debt funds, especially in the short term.
Impact of Falling Interest Rates

Capital Gains: Existing bonds with higher coupon rates become more valuable compared to newly issued bonds with lower coupon rates. Bond prices rise, leading to capital gains for investors holding these bonds.
Increased NAV: The NAV of debt funds tends to increase as bond prices rise due to falling interest rates. Investors may experience an appreciation in the value of their investments.
Higher Returns: Falling interest rates can lead to higher overall returns from debt funds, particularly in the short term.
Managing Interest Rate Risk

While interest rate changes are inevitable, there are strategies you can employ to manage interest rate risk in your debt fund investments:

1. Diversification

Diversifying your investments across different types of debt instruments, such as government securities, corporate bonds, and money market instruments, can help mitigate interest rate risk. Each type of debt instrument may react differently to changes in interest rates, thus reducing the overall impact on your portfolio.

2. Duration Management

Duration measures the sensitivity of a bond's price to changes in interest rates. Bonds with longer durations are more sensitive to interest rate changes than those with shorter durations. By adjusting the duration of your debt fund investments based on interest rate expectations, you can minimize potential losses or maximize gains.

3. Regular Monitoring

Keep a close watch on interest rate movements and their potential impact on your debt fund investments. Regularly review your portfolio and consider rebalancing or adjusting your investment strategy as needed to align with prevailing market conditions.

Benefits of Regular Funds Through MFDs with CFP Credential

Investing in debt funds through Mutual Fund Distributors (MFDs) with Certified Financial Planner (CFP) credentials offers several advantages:

Professional Guidance: MFDs with CFP credentials provide personalized advice tailored to your financial goals, risk tolerance, and investment horizon.
Portfolio Optimization: They help select suitable debt funds and optimize your investment portfolio to manage interest rate risk effectively.
Periodic Reviews: MFDs conduct regular reviews of your portfolio to ensure alignment with your financial objectives and make necessary adjustments to mitigate interest rate risk.
Disadvantages of Direct Funds

Investing directly in debt funds without professional guidance may expose you to interest rate risk and other market uncertainties. Lack of expertise and resources to monitor interest rate movements and adjust investment strategies accordingly could potentially lead to suboptimal outcomes.

In conclusion, interest rate changes can have a significant impact on the returns generated by debt funds. By understanding how interest rate dynamics affect your investments and implementing appropriate risk management strategies, you can navigate interest rate fluctuations effectively and optimize your investment outcomes.

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

www.holisticinvestment.in
DISCLAIMER: The content of this post by the expert is the personal view of the rediffGURU. Users are advised to pursue the information provided by the rediffGURU only as a source of information to be as a point of reference and to rely on their own judgement when making a decision.
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How the mutual funds given more interest rate
Ans: Mutual funds do not offer interest rates like traditional fixed deposits. Instead, mutual funds generate returns through capital appreciation and/or income distribution. Here's how mutual funds can potentially provide higher returns:

Capital Appreciation: Mutual funds invest in a diversified portfolio of securities such as stocks, bonds, and other financial instruments. When the value of these underlying assets increases over time, the mutual fund's net asset value (NAV) also rises, leading to capital appreciation for investors.
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It's important to note that mutual fund returns are subject to market risks, and there are no guarantees of returns or capital protection. Investors should carefully consider their investment objectives, risk tolerance, and investment horizon before investing in mutual funds. Consulting with a Certified Financial Planner can provide personalized advice and help investors make informed decisions aligned with their financial goals.

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Ramalingam

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Asked by Anonymous - Feb 13, 2025Hindi
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Why do Debt Funds offer lower returns as compared to Equity Mutual Funds?
Ans: Debt funds and equity mutual funds serve different purposes in an investor's portfolio. Debt funds offer stability and lower risk, while equity mutual funds focus on high growth with higher risk.

Below are the key reasons why debt funds provide lower returns than equity funds.

1. Nature of Underlying Investments
Debt funds invest in bonds, government securities, corporate debt, and fixed-income instruments.

These instruments provide fixed interest, leading to predictable but lower returns.

Equity mutual funds invest in company stocks, which have the potential for higher capital appreciation over time.

2. Risk-Return Tradeoff
Lower risk means lower return potential in debt funds.

Debt investments focus on preserving capital rather than aggressive growth.

Equities are volatile, but over the long term, they tend to generate higher returns.

3. Interest Rate Sensitivity
Debt fund returns depend on interest rate movements in the economy.

Rising interest rates reduce bond prices, lowering returns in debt funds.

Equity funds are less impacted by interest rate changes and benefit from economic growth.

4. Inflation-Adjusted Returns
Debt funds often fail to beat inflation in the long run.

Equity investments provide inflation-adjusted growth due to rising corporate earnings.

Holding equities for longer durations results in compounding benefits.

5. Growth Potential
Equities represent ownership in businesses that expand over time.

Business growth translates to higher share prices and higher returns.

Debt instruments provide fixed interest, which limits potential upside.

6. Tax Efficiency
Equity mutual funds enjoy lower long-term capital gains (LTCG) tax rates compared to debt funds.

Debt fund gains are taxed as per the investor’s income tax slab, reducing post-tax returns.

This tax treatment makes equities more attractive for long-term wealth creation.

7. Market Performance
During economic growth, companies generate higher profits, leading to higher equity returns.

Debt fund returns depend on interest rate cycles, making them less rewarding in growth periods.

Equities have historically outperformed debt over longer durations.

Finally
Debt funds provide safety and stability but offer lower returns.

Equity mutual funds outperform over time due to business expansion and compounding.

A well-balanced portfolio should include both debt and equity, based on financial goals.

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Hi Ramalingam Sir, Very fond of your guidance. I`ve invested in ICICI Prudential Guranteed Income Plan with PPT of 10 Years & Policy Term is 11 Years. The Yearly Premium is 5 lakhs with Guaranteed Early Income i.e which started from 2nd year onwards is 1.19 Lacs. After 11th year Guaranteed Yearly Income will be 6.38 Lacs. I started this Policy in 2022. Very soon I realized that this is not worth of investing my money. I decided to stop Premium after 2 years which made my Policy as Paid up status which means all benefits are reduced but Policy is Active. I changed myself as I did mistakes in Past (by taking this policy) and now I read each clause very carefully. Now in this case If i surrender, the Surrender value is calculated based on Guaranteed factor X Total premium paid - Income already Paid. Now currently Surrender value is 2.9 Lacs as GV factor is 50%. This factor will improve Gradually with time and by 9th year it will went to 90%. I want to Surrender but now will incur heavy loss (approx. 4.8 lacs) ( to me while in 9th year at least I`ll get 90% of my Premiums back. So pl. advice what is right approach as when should i think for Surrender. As of now by God grace I`m not in any financial emergency. Further is my understanding correct that SV will rise with time. Thanks in advance for your guidance.
Ans: It is very good that you have started reading your policy papers so closely now. Most people do not take the time to understand the fine print, but you have already taken a big step by identifying that this plan does not match your long-term goals. Your ability to stop the premium early shows you are now in control of your money.

» Understanding your paid-up policy and surrender value

Your understanding of how the Surrender Value (SV) works is mostly right. In these types of plans, the Guaranteed Surrender Value factor does go up as the years pass. However, there is a catch. While the percentage factor increases, the insurance company also deducts the income they have already paid out to you from the final amount. Even if you wait until the 9th year to get 90% of your premiums back, you are losing out on the "time value" of that money. Money sitting in a low-yield environment for nine years loses its buying power because of inflation.

» The math behind surrendering now versus later

If you surrender today, you take a big loss of Rs. 4.8 lakhs. This feels painful. But if you keep the money locked in just to avoid the loss, you are essentially letting the company hold your remaining Rs. 2.9 lakhs for several more years at a very low return. A 360-degree view suggests that if you take the money out now and put it into a productive asset like a diversified portfolio of actively managed mutual funds, that money can work much harder for you. Actively managed funds are great because a professional fund manager chooses the best stocks to beat the market, unlike other options that just follow a fixed list.

» Why regular funds and expert guidance matter

Since you mentioned you want to be careful now, it is better to invest through regular plans with the help of a Certified Financial Planner. Many people think direct funds are better because of lower fees, but they often end up making emotional mistakes or picking the wrong funds without a guide. A regular plan gives you access to professional advice and periodic reviews, which ensures you stay on track. This expert support is worth much more than the small cost difference, especially when you are trying to recover from a past investment mistake.

» Opportunity cost and your next steps

Since you do not have a financial emergency, you have a great chance to build wealth. Instead of waiting years just to get your original 5 lakhs back, you can take what is left and start a Systematic Investment Plan (SIP). Over the next seven to eight years, a well-managed equity fund could potentially grow that small amount into something much larger than what the insurance policy would ever pay. The loss you take today is the "fees" for a valuable lesson, but staying in the plan is a continuous cost.

» Tax rules to keep in mind

When you move your money to equity mutual funds, remember the tax rules. If you hold your investment for more than a year, it is called Long Term Capital Gain (LTCG). Any profit above Rs. 1.25 lakh is taxed at 12.5%. If you sell before one year, the profit is taxed at 20%. This is still very efficient compared to many other products.

» Finally

The best approach is usually to exit such low-yield insurance-cum-investment plans as soon as possible. Since your policy is already paid-up, it is not eating new money, but it is wasting your old money. Surrendering now and moving the funds into actively managed mutual funds through a regular plan will likely put you in a much stronger position by the 11th year compared to waiting for the policy to mature.

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Dear Sir, Wanted to know if Iam right in my thinking. I want to accumulate 3.5 cr in 15 years. For that , I am planning to start an SIP of 40 k in a small cap mutual fund which have easily beaten small cap index benchmarks last 15 yr/20 yr time frames and generated superior returns( Although I understand past performance may or may not replicate similar performance) However I have noticed that bigger compouding or multibagger return from Mutual funds have come largely only from small and mid caps. Large caps may not come closer to what small caps or a mid cap can generate. So by staying disciplined with sip of 40k everymonth in small cap and continue till 15 years be good plan to accumulate 3.5 cr. 15 years in a small cap fund i believe will be decent hold time for reaching such corpus riding various market cycles etc. risk can be largely minimized. Also if the target is nearing in the 14th yr, the entire corpus can be moved to a short term debt fund as a safer strategy then. Please advise. Thank you
Ans: It is great to see your clear vision for building a corpus of Rs. 3.5 cr over the next 15 years. Your decision to start a monthly SIP of Rs. 40,000 shows strong financial discipline. Planning for a 15-year horizon is a smart move because it gives your money enough time to grow and handle different market ups and downs.

» Assessing the small cap strategy

Choosing small cap funds for long-term growth is an interesting choice. You are right that small and mid-cap companies often have more room to grow compared to large-cap companies. This can lead to higher returns over a long period. However, small cap funds can be very volatile. This means the value of your investment might go up and down a lot more than a large-cap fund. Since you have a 15-year window, you have the time to stay invested through these cycles, which is a good way to manage that risk.

» The value of active management over index benchmarks

You mentioned that the funds you are looking at have beaten the small cap index benchmarks. This is a very important observation. In the Indian market, especially in the small cap space, index funds have many disadvantages. Index funds simply track a basket of stocks regardless of their quality. This means they include both good and bad companies.

Actively managed funds are much better because a professional fund manager carefully picks stocks. They can identify high-quality companies with strong growth potential and avoid those with poor governance or weak financials. This active selection is why many managed funds consistently outperform the index. By choosing active funds, you get the benefit of expert research which is crucial in the complex small cap segment.

» Portfolio structure and diversification

While small caps offer high growth, relying only on one category might be risky. A 360-degree financial solution usually suggests a bit more balance. Even though you want high returns, having some exposure to mid-cap or multicap funds could provide a smoother journey without sacrificing too much growth. This helps in staying disciplined because the portfolio won't swing as wildly during market corrections.

» Risk management and the exit strategy

Your plan to move the corpus to a short-term debt fund in the 14th year is a very wise strategy. As a Certified Financial Planner, I see this as a great way to protect your gains. When you are close to your goal, you do not want a sudden market drop to reduce your 15-year hard work. Shifting to safer debt instruments ensures that your Rs. 3.5 cr target is locked in and available when you need it.

» Taxation on your gains

When you eventually move your money or withdraw it, keep the tax rules in mind. For equity mutual funds, Long-Term Capital Gains (LTCG) above Rs. 1.25 lakh are taxed at 12.5%. If you sell any units before one year, the Short-Term Capital Gains (STCG) are taxed at 20%. For the debt funds you plan to use in the final year, the gains will be taxed according to your income tax slab.

» Final Insights

Your plan is solid and your goal is achievable with the discipline you are showing. By sticking to your Rs. 40,000 SIP and choosing actively managed funds, you are putting yourself in a strong position. Regularly reviewing the progress with a Certified Financial Planner will help ensure you stay on track and make any small changes needed along the way.

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

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How much pension will I get from the SBI Saral Pension Yojana plan? I have a annual premium or investment of 150000 for the last 9 years; 1 more year to go the end of the premium. Can I withdraw money after maturity of this plan? Age at the entry was 43, and the sum assured is 1500000
Ans: You have done a great job saving Rs. 150000 every year for 9 years. Thinking about your retirement at the age of 43 shows a lot of maturity. I am very happy to see your strong commitment to saving money for your future.

» Review of your current insurance policy

This policy is a mix of insurance and investment. Usually, these plans give very low returns. You might only get 4 to 5 percent growth. You asked if you can take out all your money after maturity. The rules for these old pension plans do not allow you to withdraw the full cash. They force you to buy a fixed monthly payout plan with a big part of your money. As a Certified Financial Planner, I do not suggest these fixed payout plans. The monthly money you get is very low and it does not grow over time. When prices go up in the future, this fixed money will not be enough for your daily needs.

» Creating a 360 degree solution for your wealth

Since this is an investment combined with insurance, my advice is to surrender this policy now. After you surrender it, you can take the money and invest it in active equity mutual funds. Active mutual funds have experts who pick good companies for you. This helps your money grow much faster over a long time.

» Action steps to grow your retirement money

Stop paying the final premium for this old policy.

Ask the insurance company for your surrender amount.

Put that surrender money into good active mutual funds.

Keep investing your yearly Rs. 150000 into active mutual funds instead of this policy.

Please avoid buying physical land or houses. Property needs too much money at once and is very hard to sell when you need cash fast.

A good mutual fund portfolio will give you a better regular income in your retirement years.

» Final Insights

You already have a wonderful habit of saving money regularly. If you make a small change and pick smarter investments, your future will be very safe. Moving away from low-return insurance plans to active mutual funds makes your money work harder for you. This will bring you a happy and peaceful retirement.

Would you like me to help you find how to start your first active mutual fund investment?

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

www.holisticinvestment.in
https://www.youtube.com/@HolisticInvestment

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DISCLAIMER: The content of this post by the expert is the personal view of the rediffGURU. Investment in securities market are subject to market risks. Read all the related document carefully before investing. The securities quoted are for illustration only and are not recommendatory. Users are advised to pursue the information provided by the rediffGURU only as a source of information and as a point of reference and to rely on their own judgement when making a decision. RediffGURUS is an intermediary as per India's Information Technology Act.
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