The Securities and Exchange Board of India’s (Sebi’s) guideline that liquid funds can no longer invest in papers of more than 91 days’ tenure has led to a sharp fall in their assets under management (AUM).
This, coupled with a fall in returns of short-term (three months) securities and bonds, has added to the woes of fund managers. Mahendra Jajoo, head, fixed income and structured product, Tata Mutual Fund, said, “Returns from short-term papers have slipped quite sharply, leading to a fall in returns from liquid funds by 275-300 basis points.”
Annualised returns from liquid funds have slipped from 7-8.5 per cent a year earlier to 4.5-5 per cent now, as per the industry estimates. According to data from the Association of Mutual Funds in India (Amfi), investors withdrew Rs 34,378 crore from liquid funds in June.
Navneet Munot, chief investment officer, SBI Mutual Fund, said, “As per Sebi guidelines, fund managers cannot invest in papers of more than 91 days, which has adversely impacted returns of these schemes.” Earlier, fund managers were able to generate higher returns from this category by investing in a judicious mix of short- and long-term papers.
However, fund houses may find themselves in a serious trouble if there is a run on liquid schemes because longer-term papers have to be sold at a discount. This is likely to hurt existing investors because of a fall in net asset value of these schemes. Liquid funds are short-term debt funds that offer investors the option of withdrawing their money at a very short notice, ranging from overnight to just over a week. Investors, especially companies and banks, prefer these schemes to park their short-term funds because of quick entry and exit options.
Experts said that money from liquid funds had shifted to ultra short-term funds (a reincarnation of liquid-plus funds). In ultra short-term funds, the lock-in period is five days (liquid funds have no lock-in).
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Liquid funds face taxation on two fronts. First, there is a dividend distribution tax (DDT) of 28.32 per cent. Second, there is also a short-term capital gains tax of 33.9 per cent for the highest income bracket. For ultra short-term funds, while there is a lower tax incidence of 14.2 per cent of DDT, short term capital gains tax remains the same.
Also, the ability to invest in longer-term papers of say 150 to 180 days helps them generate better returns. For instance, while liquid funds, returns are at 0.33 per cent per month, ultra short-term funds return 0.44 per cent. “Ultra short-term funds were investing in papers of up to one year, which helped them generate better returns,” said Jajoo.