Consider the illiquid nature of closed-ended funds before investing

Sep 02 2014, 02:14 IST
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Does it make sense to invest in closed-ended equity funds for a duration of three years? Are the current valuations attractive enough? And do I have to pay any tax on the dividends?

—Alok Shah

Closed-ended schemes give the fund manager the confidence to invest, without the fear of redemptions in between. As a result, he can take a long-term call on companies he likes. Investors should, however, note that their money gets blocked for the tenure of the fund, and they should be comfortable with the illiquid nature of the investment. Also, some basic due diligence — the fund manager, his track record, the AMC’s culture of managing money and the manner in which the scheme is going to invest — is important while deciding to invest in such schemes. In terms of valuations, the markets are currently trading at 16-17X forward earnings, which is marginally above the average that India has historically traded at.

Is it a good time to invest in gilt funds — there are indications interest rates may fall as inflation cools off and with the new government wanting to fast-track growth?

—Deepak Mittal

The RBI, in its latest credit policy, has mentioned upside risk to inflation as one of key things it would be looking at before taking any decision to reduce interest rates. Also, other factors like the government’s ability to control the fiscal deficit, the US Fed’s decision to raise rates or any flare-up in oil prices could also result in a change in the view on interest rates.

Also, the longer maturities in gilt funds tend to make them volatile compared to bond funds. The investor needs to be prepared for any interim volatility before making the decision to invest.

Are liquid funds akin to keeping money in a savings bank account? What are the pros and cons of investing in liquid funds? Do I have to pay tax on the interest earned?

—Shyam Gupta

While the returns from a savings bank account are known to the investor, those from liquid funds can vary depending on the prevailing short-term rates and the liquidity scenario. However, liquid funds have normally given returns higher than savings bank accounts. The dividends declared by liquid funds are subject to dividend distribution tax of 25% and other surcharges.

There are some arbitrage funds in the market. What are their tax benefits? Where do they invest?

—Ashutosh Kumar

Arbitrage funds buy stocks of companies on the cash market

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