With several banks reducing savings account interest rates, mutual fund houses have tapped into retail savings by selling low-risk products effectively, reveals an Information and Credit Rating Agency (ICRA) report.
The State Bank of India had recently reduced its interest rate on savings account deposits to 3.5%, i.e., by 50 basis points. This was applicable for deposits below Rs.1 crore. Following this, several other private and public sector banks have cut their interest rates on savings accounts by 50 basis points.
The ICRA report mentioned that investors, corporate entities, and business houses have moved surplus funds into low-risk investment mediums such as liquid mutual funds for a short duration, in addition to the deposits in bank accounts.
Additionally, the report noted that the reduction in savings rate will offer an advantage to liquid mutual funds, as these have flexible maturity and hassle-free redemption procedures. This investment channel is expected to gain more prominence as a tool for savings due to the increasing use of the facility by retail investors.
Liquid mutual funds have recorded returns of 6.5%-7% over the past one year. The last 5 months saw a moderation of the returns to 6.25%-6.5% due to the decline in repo rate. However, these schemes have reported 2.75%-3% higher returns (before deduction of tax) on a yearly basis, when compared to savings accounts.
The interest in savings accounts is eligible for income tax benefits as opposed to the returns from liquid mutual funds. Taking this into account, the difference between the annual returns of savings accounts and liquid funds comes down to 0.87%-1.63% for an assessee in the highest tax bracket, reported ICRA.
Though liquid mutual funds are subject to market risks, the shorter maturity period for the investments mitigate some of these risks.
ICRA also noted that increase in the number of individual investors for mutual funds has driven the growth in equity assets under management (AUM). But the individual investor base is not all that interested in liquid schemes.
The drop in savings account interest rate below 4% may actually result in liquid mutual funds being a direct alternative to savings account deposits, and attract more participation from the individual investor base, stated the report.