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Many of us looked forward to the Union Budget 2017-18 with great expectations. There were expectations that the budget would announce a host of tax sops for the honest tax-paying citizens.
But contrary to these expectations, Finance Minister, Mr Arun Jaitely decided to walk the path of fiscal prudence, resulting in a lacklustre budget for Indian savers.
The mutual fund industry too, was expecting a host of tax reforms that would boost the inflow to mutual fund schemes. According to sources quoted in the media, market regulator, the Securities and Exchange Board of India (SEBI), proposed increasing the Section 80C (of the Income-tax Act, 1961) limit to Rs 2 lakh, reducing the Securities Transaction Tax (STT), and reducing the holding period for debt mutual funds to 12 months from the current 36 months with consideration towards Long Term Capital Gains (LTCG).
Another letter to the finance minister, from the mutual fund body, the Association of Mutual Funds in India (AMFI), proposed the introduction of Mutual Fund Linked Retirement Plans, introduction of debt-linked savings schemes (similar to equity tax-saving schemes), extending Section 54EC to mutual funds, and categorising Fund of Funds (FoF) as equity funds if more than 65% is invested in equities. As it turns out, they too were left disappointed.
Nevertheless, the budget did include a few proposals that can directly and indirectly influence your mutual fund investment returns. We look at a few of these and the effect on your investments in mutual funds...
Over the past few years, SEBI has been behind fund houses to merge schemes with a similar investment objective in order to reduce the muddle for investors. Unfortunately, the mergers have moved slower than expected due to several roadblocks, such as the tax implications for savers.
The Union Budget 2017-18 clarified the consideration for the holding period and cost of acquisition of units held in the erstwhile schemes for taxation purpose. It proposed that the holding period will include the period held in the former scheme, and the cost of acquisition too, will be that of the former.
Two years ago, in the Union Budget 2015-16, the finance minister provided tax neutrality on scheme mergers - stating that scheme amalgamation will be exempt from capital gains. However, there was no clarity on the holding period.
How will you benefit? - With the aforementioned clarification, scheme mergers are expected to pick up pace resulting in consolidation of mutual fund schemes. This will reduce the deluge of scheme choices available to you which otherwise poses a challenge in the task to select best mutual fund schemes for your investment portfolio. In the diversified equity fund category, there are as many as 182 schemes, with as many as 16 fund houses offering five scheme or more. As many as six AMCs offer 9-10 schemes each. And mind you, these are only open-ended schemes excluding Equity-Linked Saving Schemes (ELSS), sectoral schemes and other thematic schemes.
Consolidation will also allow fund houses to focus on lesser number of schemes, thereby reducing costs and potentially improving performance. Therefore, whether or not you are invested in a scheme that will be merged, this proposal may benefit you in the long run. If the fund houses follow through, it will be easier for you to identify top funds for your portfolio.
The finance minister proposed to change the base year for indexation to 2001 from 1981. This means that any asset purchased prior to April 1, 2001, the fair market value (in the cost of inflation index) of FY 2001-02 will apply. Currently, for non-equity funds such as debt funds, LTCG is taxed at 20% with indexation. By bringing the base year forward, the cost of acquisition will increase lowering the LTCG tax.
Does it affect you? - The change in base year will benefit you only if the investment in a debt fund or a debt-oriented hybrid fund was made prior to 2001. However, considering the penetration of mutual funds is abysmally low, it would be rare to find individuals holding onto their debt investments for over 16 years. And even if one has held units for over a decade and half, the price appreciation would be marginal to make a significant impact. It will be common to find individuals holding real estate or gold over this period, and they are likely to benefit the most from this budget proposal.
The Government continued to walk steady on the path of fiscal consolidation, keeping the fiscal deficit target at 3.2% of GDP for FY 2017-18 and 3% of GDP for FY 2018-19. This along with easing inflation, would give the Reserve Bank of India (RBI) additional room to cut policy rates, and in turn be conducive for the Indian bond market going ahead.
Over the past couple of years, debt fund investors have benefited from the falling interest rate environment. In 2016, debt funds outperformed equity funds. The outperformance may continue in 2017 as well, albeit at a lower scale, considering yields have moved lower.
Should you speculate on interest rates? - Most of you with investments in debt funds may have earned double-digits returns in the year 2016. Yields overall softened in 2016, and after demonetisation, plunged even more. But when policy rates were kept unchanged by the RBI in its fifth bi-monthly monetary policy statement for 2016-17 (held on December 8, 2016) contrary to the expectations, yields hardened a bit. Going ahead, RBI is likely to be cautious in its monetary policy stance on the backdrop of uncertainties stemming out of rising crude oil prices and the US Federal Reserve's decision on interest rates.
Therefore, while the economy's fiscal stance may inspire further rate cuts, speculating will be unfruitful. The central bank in its outlook had raised the concerns of the 7th Central Pay Commission (CPC) and the 42% increase in minimum wages. The implementation of the CPC award may have a significant and drawn out impact on the CPI Inflation trajectory, through both direct and indirect channels. The RBI would carefully watch the macroeconomic backdrop panning out - both domestic and global - before taking stance on policy rates.
Therefore, though long-term debt schemes seem attractive, it would be best to stick with short-term debt funds.
Many applauded the Union Budget 2017-18 for higher spending on agriculture (rural), and infrastructure, where 'affordable housing' was conferred infrastructure status to provide stimulus. The budget even addressed the woes of the real estate sector reeling under heavy debts, by announcing tax related provisions to help them clear the inventory that has been stifling their balance sheets. Further, a provision of Rs 2.41 lakh crore for transportation sector covering rail, roads, and shipping was made. Allocations to roadways and railways were increased by around 12% and 22% respectively. Renewable energy also received special attention. The government announced a 20,000 mw of solar park development in phase II and solar power supply at about 7,000 railway stations in the medium term.
Does this make infrastructure funds attractive? - The focus to the aforesaid sectors of the economy is likely to bode well for cement, steel, shipping, ports, housing, banks and other infrastructure allied sectors. For infrastructure companies, it is not the lack of infrastructure projects or funds, it is the muted demand that is hurting their balance sheets. As per the Financial Stability Report released in June 2016, infrastructure contributes to 32.8% of total stressed assets of banks. Metals on the other hand had a share of 13.6%. Going forward, if banks reduce policy rates it would help reduce borrowing cost and fuel consumption. Rural economy would also benefit backed by the support received vide budgetary allocation; but thorough implementation remains the key.
Having said that, sector and thematic funds are best avoided, unless you want to take greater risk while your core mutual fund portfolio is well in place. To capture investment opportunities across market capitalisations and sectors, opportunities-oriented mutual funds can do good. Choose one that has a proven track-record of generating consistent performance across a range of factors, diverse time periods and market cycles.
The Government announced that in FY2017-18, it will raise Rs 72,500 crore through disinvestment of Public Sector Units (PSUs), including listing of three railway PSUs: IRCTC, IRFC and IRCON, and proposed merger and consolidation to create globally competitive companies. This is an ambitious target, as FY 2016-17 will mark the 7th year in a row where the Government has missed its disinvestment target.
Mr Jaitley said, the Government will continue to use the Exchange Traded Fund (ETF) route for further disinvestment of shares. A new ETF is planned in 2017-18 with a diversified holding of PSU stocks and other Government holdings.
Should you invest in the CPSE ETFs? - The existing CPSE ETF invests across 10 PSUs, with three-fourth of the assets allocated to ONGC, Coal India, IOC and GAIL. The portfolio of the fund is heavily skewed towards energy sector (74%). Due to a concentrated index, the CPSE ETF lacks diversification and is more thematic. It's left to be seen if the new CPSE ETF will be better diversified. If you wish to invest in these ETFs, do ensure that you have a high-risk appetite and long-term investment horizon. Due to concentrated bets, the fund can be extremely risky; hence, you should take a limited exposure.
Announcements made in the Union Budget 2017-18 and those that come over the course of the year (such as demonetisation), may tempt you to speculate while investing. But avoid doing that, as speculation can be hazardous to your wealth and health. It may not do well for your long-term financial wellbeing. Instead, prudently review your investment portfolio on a timely basis to ensure that your investments are well aligned to your financial goals in the journey of wealth creation. Be a smart investor.
PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.
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