Low interest rate regime: investment options for senior citizens

The RBI has cut interest rates thrice this year. On the one hand, this has made those who are using equity to accumulate wealth happy, as it could mean the start of a bull market driven by growth and not hope.  On the other hand, this development has worried senior citizens who are used to the comfort of “high-interest rate” fixed deposits.

“The banks has slashed FD rates. Where else can I invest now?” is a question being asked by many senior citizens today. This is a discussion on investment options available for senior citizens in a low-interest rate regime.

This is a dangerous area to tread on. One mistake and the senior citizens net worth will take a hit. Many senior citizens want piece-meal solutions to this issue and refuse to take a holistic view of the matter.

If someone is looking

• for an alternative fixed deposits for the first time in their lives, they need to understand the risk vs reward equation for different fixed-income instruments in some detail before proceeding.
• at equity as an alternative to fixed deposits, then they should stop looking!
• at debt funds to ‘get more’, they should recognise how volatile they can (observe annual returns at value research for any debt which has been around for about 10Y)
• to increase equity exposure in the hope of a bull run, they should check if they have a large enough corpus to take on such a risk

I could go on and on.

How much volatility a senior citizens portfolio  ought to stomach (assuming the appetite is high) is an extremely tricky subject. The current withdrawal rate is often cited to set up a thumb rule.

Current withdrawal rate = expected annual expenses/current portfolio value.

If you have an assured pension then you could write

Current withdrawal rate = (expected annual expenses- pension after tax)/current portfolio value.

Portfolio here refers to your investment other than your pension or the amount used to purchase the annuity.

Is is for these investments that an alternative is being sought for.

If this is 3-4%, a reasonable amount of volatility is generally acceptable.

5-7% some volatility is ‘okay’, but how much is ‘some’ is hard to ascertain. It is a ‘cat on the wall’ situation.

Anything above that implies the corpus is too small and is fit only to generate a fixed annuity.

A detailed explanation with a calculator is available here When should senior citizens purchase an annuity?

A more generic investment options for senior citizens has been published before.

In this post, I would like to focus on fixed deposit alternatives for those who do not have much experience with mutual funds. If you need professional help, consult a fee-only financial advisor.

If you want truly fixed income then you will need to lock up your money: Thensenior citizens savings scheme can be a decent option. However, one can invest only up to 15 Lakhs. The payout is quarterly and is taxable as per slab. As Ashal pointed out at FB group, Asan Ideas for Wealth, get this from the bank and not post office.

Equity Mutual Funds  Stay away unless your withdrawal rate is low enough.

Co-operative bank and corporate fixed deposits Stay away

Debt mutual funds:

Fixed income products like a fixed deposit or recurring deposit or a bond which is not sold in the secondary market are extremely simple to understand. Simply because they are truly fixed income products. Take such a product and allow it be traded in the market, its value will change on a day to day basis.

Its value can increase or decrease sharply when interests rates change or when the credit rating of the issuer changes.

Read more: to understand the impact of these changes in detail from these posts:

Understanding Interest Rate Risk in Debt Mutual Funds

Understanding Credit Rating Risk in Debt Mutual Funds

Debt Mutual Funds: Risk vs. Reward

Lessons from the JP Morgan – Amtek Auto Debacle

Investing in debt mutual funds: slow and steady wins the race!

Now the upshot of these posts for first-time debt mutual fund investors is this:

• stick to so-called ultra-short term funds which invests in short-term (few months) bonds of banks, PSUs and high-rated companies. You can consider short-term banking and PSU funds if you don’t want to take on credit risk from corporate bonds
• As Mr. Raghu Ramamurthy (my oldest patron at 87) often mentions, short-term gilt funds are more than a decent alternative to those who do not want to expose their portfolios to credit risk. However, the NAV of such funds can fall and be in the red for at least a few weeks if there is a sudden increase in interest rates. Read more: Comparison: Short-term gilt vs. long-term gilt vs. Ultra short-term mutual funds
• Stay from corporate bond funds or at least do not have significant exposure to them. If you like corporate bond funds, stick to established AMCs like Franklin which will not have too much exposure to a single bond (something that JP Morgan did)
• Stay away from monthly income plans. There are not for income!! One need to stay invested for 5+ years (preferably 7Y) to see ‘decent’ returns.
• Stay away from long-term gilt funds. They are for trading.
• Never forget that past performance cannot sustain in debt funds. Just like FD rates, their returns are cyclic too. So do not expect too much more return.

I have assumed that you are in the 20% or 30% slab. For those in 10% slab, a debt mutual fund is not tax efficient.

Arbitrage mutual funds or equity savings funds can offer anywhere between 6-8% returns which are tax-free if held for over one year. A small exposure to such funds is not a terrible idea.

This is as far as my thinking takes me.

Conclusion: There is no free lunch. Simple products would offer low returns (senior citizens savings scheme is an exemption), would be taxed as per slab and will have a lock-in.

Products will better taxation, liquidity and potential for better returns will come volatility tagged. Selection requires study.

Caution: If an advisor suggests a complete overhaul in your portfolio, get a second opinion. Do not proceed blindly.