Positioning of Equity Savings Funds

Equity Savings Funds

Basically, we can define equity savings funds as the sum of arbitrage, equity and debt funds. It is a hybrid scheme that is suitable for investors who are looking for income generation, capital appreciation and higher returns over fixed deposits in the longer term and moderate risk appetite. Investors equally invest in equity-related instruments, debt and money market instruments, and arbitrage opportunities. A minimum of 65 percent equity is parked in arbitrage opportunities and is classified as an equity fund and the rest of the fund is invested in fixed income securities.

How It Came Into Existence?

Three years back, the government made a new scheme of increasing the holding period for debt funds to three years in order to get indexation benefits. Otherwise, the investors were taxed at their slab rate. In short, it meant that debt and debt-oriented funds such as Monthly Income Plans (MIPs) were given the same tax treatment as Fixed Deposits (FDs) for holdings up to three years. To address these specific set of investors, Equity savings funds was introduced as a category to provide MIP-like returns.

Equity savings funds should be seen as an alternative to bank fixed deposits as the equity savings funds are tax-efficient and offer higher post-tax returns. These funds are perfect for investors who are looking for medium to long term investment objectives. These equity schemes are less riskier than balanced funds since only one-third of the amount is invested in equity.

If fund categories are graphed on a risk-return axis, equity savings funds comes in between MIP funds and balanced funds. Equity savings fund positioned higher than MIP( debt-oriented funds), and a notch lower than balanced funds in the risk-return parameters. Let us talk about the benefits of investing in Equity savings funds. There are basically three major benefits—growth potential of equity, income opportunity and tax efficiency. The equity savings funds is a great investment instrument for regular income along with capital appreciation and maintaining medium market volatility.

Tax Efficient Investment

Equity savings fund give the risk-averse investors taxation benefits. The equity savings funds provides tax-free returns compared to tax that is incurred on the interest earned on bank deposits, when the holding period is more than a year. However, the investor need to pay tax at 15% on short-term capital gains, if the units are redeemed before one year. For debt funds, the investor have the benefit of earning short and long-term capital gains. The short-term gains are taxed according to his slab and added to the investor’s total income, while long-term capital gains are taxed at 20% with indexation after three years. In other words, all the debt-oriented schemes, such as the monthly income plans, gets the same tax treatment as bank or post office fixed deposits.

Less Volatile than Equity Funds

In the equity savings funds, a large part of the investment is in debt and arbitrage and hence the equity savings funds are considered less volatile that helps in stabilising returns. The fund uses certain derivative strategies. to further reduce volatility and hedge the portfolio. The arbitrage part of the fund looks at the price difference in securities in different segments of the market. Investors who want some equity exposure with stability in returns may go for equity savings fund . If one is looking for higher returns with some risk, then pure equity funds are the best bet. It is important that an exit load of 1% applies when the equity savings funds are redeemed before a year.

Different From Balanced Fund

The fund managers invest up to 65% of the money in equity and the rest in debt, in case of balanced funds. However, equity savings fund has lower equity component than that of balanced fund, even though there is common tax advantage in both the funds. Investors with a moderate risk profile and long term investment of over three years can opt for balanced funds. In balanced funds, the managers increasing allocation to equity when the markets are declining, and reduce the equity exposure when markets are rising, and thus the funds are less volatile. The equity savings fund are ideal investment options in today's time when the stock markets are rising and interest rates remain low, that will give reasonable returns with stability. One of the the best ways to invest in these schemes is through a systematic investment plan.

Higher Returns Than Arbitrage Funds

Arbitrage funds always look to find arbitrage opportunities (the difference in securities price) in different segments of markets. Higher arbitrage opportunities exists in a bull market, than during falling or flat markets. In equity savings funds, A good chunk of unhedged equity exists in equity savings fund ,that generates higher returns than arbitrage funds. However, there is higher risk and higher return potential in equity savings fund than arbitrage funds.