Liquid Piggy

Pritam P. Hans        Print Edition: July 2011

What comes to your mind first when you think of your savings?

Chances are that you will try to do some quick math to see how much money you hold in your bank savings accounts. A huge bank balance may give you a sense of security, but be warned that the purchasing power of your money parked in savings accounts is declining.

PENDING REFORMS

One of the biggest advantages of savings accounts is liquidity, but it comes at a heavy price. Interest rate on savings deposits had remained unchanged at 3.5% per annum since 1 March 2003 until recently. Despite the Reserve Bank of India (RBI) increasing the interest rate for savings bank accounts to 4% in its annual policy review for the current fiscal, the real rate of return after factoring in inflation has persistently remained negative over the past decade.

PIGGY COVER:Savings accounts still give better, safer returns

Savings deposits interest rate is the only deposit rate that is still regulated in India. In order to go ahead with complete deregulation of interest rates, the RBI is toying with the idea of giving banks the freedom to set their own rates.

In end-April, the RBI released a discussion paper on deregulation of savings bank deposit interest rate and invited comments from the public on it.

Deregulation Drive
Due to regulated interest rates, depositors have not been able to benefit from the increasing demand for money over the years despite the fact that current account and savings accounts (Casa) constitute a large chunk of low-cost funds for banks. Once banks are free to set the interest rates, many of them will vie for a larger share of Casa funds by offering higher rates.

On the flip side, deregulation of interest rates also means that the returns can go below the present 4% if the system is flush with liquidity. However, such occasions are likely to be very few.

As has been the immediate result of interest rate deregulation in other Asian economies such as Indonesia and the Philippines, the gap between inflation and interest rate may become narrow or real interest rate may turn positive, which in turn will make savings deposits more attractive.

MUST READ:Fixed-income units help amid volatility

Even after the deregulation, your bank account is unlikely to transform into the best place to park your surplus cash.

BETTER AVENUES


Financial planners advise on maintaining enough liquidity to take care of unforeseen requirements. The level of liquid assets required in your portfolio depends on your cash flow requirement.

"A thumbrule would be to have six months expenses in cash or cash equivalents at all times. From a portfolio allocation point of view, 5-10% of cash helps to take advantage of special investment opportunities as and when they arise," says Sutapa Banerjee, chief executive officer, Ambit Private Wealth.

If you can afford a delay of a few hours to a day in getting your money back, you can consider options such as the savings account 'sweep' facility and liquid funds.

EXPERT VIEW:Which is better - Liquid mutual funds or savings account?

"The simplest option would be to opt for a sweep facility on the savings account wherein funds above a predetermined threshold automatically get converted into fixed deposits, which offer better returns and can be liquidated in a few hours or a day at the most," says Richa Karpe, director, investments, Altamount Capital Management, which provides wealth management services to multiple families.

During 2000-09, savings bank deposits comprised around 13% of total household savings.
Liquid funds, which are open-ended mutual funds that invest in fixed-income securities, are an attractive alternative as these offer higher post-tax returns compared with savings deposits along with reasonable security of investment.

"Liquid funds can be redeemed within 24 hours and have no exit load. These funds invest in securities with a maximum maturity of 91 days, which cuts down the credit risk," says Mukesh Agarwal, senior director, CRISIL Research.

"In June, three-month money market rates (interest offered on certificates of deposits and commercial papers) were above 9%," Yogesh Kalwani, director and head of investment advisory, BNP Paribas Wealth Management, points out.

You can also invest in ultra short-term bond funds, also known as liquid plus funds. These funds also invest in fixed-income instruments, but if these are redeemed within a specified period, you may have to pay an exit load.

"Liquid plus funds have tax-efficient daily dividend options. Dividend distribution tax is 13.52%, against marginal tax rate of 30.90% on interest payment on savings deposits," adds Kalwani. Liquid funds are not totally riskfree.

So you must carry out basic checks such as reputation of the fund house and performance of the funds over the long term. Do your due diligence and transfer your surplus cash in instruments that offer you a better value of your money. Get rid of your laziness, today.

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