Short Term Investments: Where Would You Invest If You Need To Park Your Funds For A Year Or Less?

If you are looking to invest your money for the short term, for a year or less, there are a few ways to do it, that could give you good returns. Read on to find more.
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The goal of investing is to increase your wealth, but the choice of investment depends on your time horizon and specific objectives. If your goal is a long-term one, spanning five to seven years, equity investments are a solid choice.

However, if your time frame is shorter, such as one year or less, investing in equity can be risky due to market uncertainties. In situations where you need access to your funds within a year and don't want to leave them in a savings account, it's crucial to make wise investment decisions.

Chirag Muni, Associate Director, Anand Rathi Wealth said, “The strategy of investment is very different if you want to invest for a short duration. The first step should be to break up the investments into buckets at different time horizons. For a three- to six-month period, we suggest opting for liquid fund and Money Market fund Whereas, for longer duration such as six to 12 months, we suggest that you opt for arbitrage funds which have better taxation advantage as well.” 


Let's Delve Into Some Options

Fixed Deposits: 

Traditional Fixed Deposits (FDs) would work in the current phase where interest rates are at cyclically high levels. Fixed Deposits (FDs) have different periods, starting from 7 days, 14 days, 30 days, 45 days, up to a year or even 10 years. The durations may vary between banks. Upon maturity, FDs can be renewed, and the funds can be reinvested.

According to the rules of the Deposit Insurance and Credit Guarantee Corporation (DICGC), each depositor in a bank is insured up to a maximum of Rs 5 lakh for both the principal and interest amounts. State Bank of India (SBI) is now offering 6.8 per cent per annum interest rates per annum for one year.

Whereas, HDFC Bank is offering a 6.6 per cent per annum interest rate for a year. 

Arbitrage Funds:

Arbitrage funds are a kind of mutual fund or investment approach that seeks to benefit from price variations (arbitrage opportunities) between related financial instruments in various markets or segments.

These funds usually capitalize on price differences between securities traded on different stock exchanges, between cash and derivative markets, or within different parts of the same market. The main aim of an arbitrage fund is to produce returns with comparatively lower risk than other investment strategies. It does this by simultaneously buying and selling the same or similar assets to gain from price differences.

Since arbitrage funds are categorized as equity from a tax standpoint, these funds benefit from the low tax rate making it a better post-tax return alternative. “At present, arbitrage funds are available at an attractive spread (as of September 30, 2023) making the post-tax return differential or around 1.5 per cent - two per cent per annum when compared to other debt options. This makes it a good investment choice,” Muni added. 

Says Harish Menon, co-founder and head of investments and product research at House of Alpha: “I would recommend investments for less than one-year horizon in mutual fund schemes in arbitrage fund category. Arbitrage funds earn near the risk-free rate of return by exploiting opportunities to lock certain profits by simultaneously executing transactions in the cash segment and derivatives segment. Arbitrage funds have an advantage over fixed income concerning taxation. Arbitrage funds are taxed just like equity funds @ 15 per cent/10 per cent for short-term/long-term capital gains. Returns from debt funds are taxed at a marginal rate of tax. It must be noted that most schemes in the arbitrage funds category have exit load if redemption is done within a few days.”

“An arbitrage fund is a low-risk investment option, which gives a return a similar debt product of under a year would offer. It is treated as an equity fund and hence will be taxed at 15 per cent which ensures better post-tax returns,” Suresh Sadagopan, founder and principal of Ladder7 Financial Advisories, a financial planning firm said. 

Liquid Fund (up to three months):

A liquid fund is a type of mutual fund that primarily invests in short-term money market instruments with a residual maturity of up to 91 days. These funds are designed to provide investors with a high level of liquidity and safety for their capital while generating modest returns,” Muni said.

Liquid funds are designed for individuals with significant unused cash-seeking short-term investment options. Instead of leaving your extra funds in a savings bank account, consider investing in a liquid fund to earn higher returns.

Examples of surplus money include performance-based incentives, bonuses, and gains from selling capital assets. Liquid funds also serve as a means to invest in equity funds.

You can start by investing in a liquid fund and then systematically transfer the funds to an equity fund of your choice over a set period.

Debt Funds: 

If you're looking to invest for less than a year, you may consider low-duration debt funds. They put your money into a mix of fixed-income securities like government and corporate bonds.

Following Securities and Exchange Board of India (Sebi) rules, these funds keep a shorter average maturity period, usually between six to twelve months, reducing the risk of interest rate fluctuations. “Some categories within debt funds like ‘Money Market Funds’ can be considered for short-term investments,” Menon added. 

Equity Savings Funds: 

Equity savings funds are mutual fund schemes introduced by Sebi in 2017. They involve investments in a mix of equity, debt funds, and arbitrage securities.

According to Sebi regulations, these funds must have a minimum of 65 per cent in equities and at least 10 per cent in debt holdings. These funds use hedging strategies to invest in equity, equity-related instruments, debt securities, and arbitrage securities.

By spreading exposure across different asset classes, they maintain diversity, flatten overall risk, and navigate market conditions. This approach makes the fund less susceptible to market fluctuations. 

Equity savings mutual funds are a good option for investors seeking short to medium-term equity exposure. These funds, with a mix of debt and arbitrage opportunities, carry lower risks than pure equity funds. They offer better returns compared to pure debt funds due to their equity allocations.

For those new to stocks but wary of high risks, these funds provide a chance to explore equities without taking on excessive risk. With lower tax liabilities than debt funds, they're suitable for investors looking to reduce their tax burden. Additionally, they offer an alternative to traditional investments like FDs and recurring deposits.

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