Capital Protection Oriented Funds

Capital Protection Oriented Funds are offered by mutual fund companies. In these schemes, fund manager invest around 80% of investor’s money in fixed income instruments like bonds, FDs debentures, corporate bonds, govt securities etc. with an aim to protect investment and remaining amount (around 20%) is invested in equities/shares, which gives opportunity to participate in growth.

Maturity
 

These schemes are generally ranges from 3 to 5 years

Characteristics

• These are Close-Ended Schemes, hence available for investing during offer period only.
• It is listed in Stock Exchange & hence has option for exit, but offers much less liquidity.

Risk Factors

Market Risk:  Since these schemes invest around 20% of asset in equities, which are high risk instruments.

Interest Rate: Interest rate may fall before money is invested and funds will have to be invested at a lower rate.

Credit Risk: Downgrade brings down the price of securities as investors demand a higher price on the asset leading to higher credit spreads.

Advantages

• Comfort of Diversification (i.e., debt and equity investments)
• Low interest rate risk, since debt portfolio held till maturity
• Low Credit risk, since debt portfolio will not invest in real estate & IT sector, which are prone to more volatile performances.
• Gains made through investment in these schemes are treated as Long-Term Capital Gains & hence eligible for Indexation benefit, which substantially decreases investors’ tax outgo. According to this, tax will be charged only 10% without indexation or 20% with indexation, whichever lower is chargeable. Hence, it is considered better than Fixed Deposits, since returns generated by FD are taxable at 30%.
• At present Scenario, interest rate on debt instruments are ranges from 9 to 10%, hence, investing in these funds makes sense, because debt portion to be around 80% of the portfolio.

Assumption on which it works

For example take three year fund. Start with Hundred Rupee and Rs 80/- in Fixed Deposits with the remaining Rs.20/- make an investment in Equities. In three years, the 80 would have grown to just over 90 and 20 would, even in the absolute worst case, be very unlikely to fall below 10.That gives you your capital back. But, that’s worst case. In reality you could legitimately expect that 20 to grow in three years.

Who should invest in this?

• Individual or Corporate Investor, who comes under highest tax bracket of 30%, since this will enhance the level of post-tax returns on any wealth created by the fund.
• An experienced equity investor, sitting idle in saving/current bank accounts after booking profit from equity market. He/She could generate further gains, while protecting capital.

In General, the risk is very low, but not zero. The Capital Protection Oriented means that they are designed to be risk-free but that’s not a guarantee. There could well be problems in the debt part of the portfolio which actually leaves investors with a loss. Although, a chance of this happening is admittedly low, due to AAA rating debts (most of these funds invest their debt portions in AAA rating securities).

Note: Purpose of this article is only to give broad idea  about the product.So, Please consult your financial planner / investment advisor before making any investment decision.