FMP's Are Making A Comeback - Should You Invest?
FMP's (Fixed Maturity Plans) are making a comeback in a big way. As I write this, we've got NFO's (New Fund Offers) in FMP's in progress from as many as 4 top Asset Management Companies - DSP BlackRock, ICICI Prudential, Reliance Mutual Fund and UTI Mutual Fund. Most of these FMP's have a time horizon of around 40 months, which represents a sweet spot - given the recent spike in yields across the board.
What exactly are FMP's? Simply put, they're a type of debt fund that buys and hold bonds until they mature. Unlike other types of debt funds, they do not sell bonds from their portfolio before their maturity dates, thereby eliminating the risk of mark to market price fluctuations due to movements in yields. In effect, they retain only credit risk (the risk that their portfolio companies will default on their payments) and reinvestment risk (the risk that if some bonds mature prior to the FMP maturity date, the proceeds may have to be reinvested at a lower yield).
When bond prices fall, YTM's (yields to maturity) rise, and potential FMP returns go up - which is why AMC's are cashing on the opportunity right now. Bond yields have risen sharply over the past 45 days, ever since the 2.11 lakh crore bank recapitalisation was announced by the Finance Minister.
SEBI banned AMC's from disclosing indicative yields on their FMP's a few years back, but we may draw inferences on potential risks and returns from publicly available date. Yields on 3-year maturity, AAA rated corporate bonds are presently quoting at around 7.85%. For AA rated bonds, the number is around 8.25% to 8.50%.
Most FMP's now are running with AA rated papers (which have a negligible default rate of 0.2%), and so one can expect the returns to more or less match their portfolio YTM's. In effect, we can expect annualised returns of 8.25% to 8.5% per annum from these FMP's, minus the expense ratios of the funds. For Direct Plans, that would be Bear in mind that this is around 0.5% to 0.6% higher than expected returns from FMP's being launched barely a couple of months ago.
Given that most bank FD rates are yet to rise, and that all sorts of risks still plague the duration space, investors could start considering the addition of FMP's to their fixed income portfolios at the present yields. Bear in mind that FMP's have a hard lock-in associated with them, with zero exit options before their maturity dates. If you're looking to deploy 3-year money into a low risk, FD beating investment, this is probably as good a time as ever to start investing into FMP's. Just make sure that you stick with the large AMC's that have solid risk management structures in place.
