The liquid fund category will find competition from a new source: a three-day fixed deposit from State Bank of India, if the RBI allows the bank to go ahead with the proposal. Ever since the RBI stopped controlling bank interest rates in 2011, banks have been introducing attractive deposit options. The early impact of this move was the frenzy of advertisements proclaiming higher interest rates in savings bank account.
Now, there has been activity on the bank deposit front as well. In 2012, SBI had introduced an innovative deposit scheme: the unFixed deposit guaranteed 7.50 per cent per annum interest on minimum seven-day deposits on sums of Rs 1 crore and more. One could withdraw from these deposits anytime after seven days without any exit charges, which was quite popular and garnered over Rs 30,000 crore.
Advantage liquid funds
SBI has now proposed a three-day fixed deposit scheme, which, if it goes through the RBI, could give liquid funds some competition. But, will the three-day FD impact liquid funds? Unlikely. Liquid funds are those which do not invest any part of assets in securities with a residual maturity of more than 60 days and account for about 23 per cent of the total industry AUM. Beyond returns, liquid funds also have advantages in terms of liquidity, safety and portability. They can be redeemed within 24 hours and have no exit load.
Corporates prefer these schemes with nearly 82 per cent of the liquid fund assets coming from them. The liquid funds offer instant liquidity and do not have any exit load. Moreover, the dividend option in these schemes is more popular with corporates as it scores over an FD due to favourable tax arbitrage. Although there is a 28.33 per cent dividend distribution tax (including surcharge and education cess), liquid funds are still lucrative. This is because of the relative higher effective corporate tax of 33.99 per cent (including surcharge and education cess) on investments in fixed deposits.
The 7.5 per cent guaranteed 7-day SBI fixed deposit pales when compared to the over 8 per cent and 9 per cent that the liquid fund category average posted in 2011 and 2012, respectively. The category is dominated by six big funds: ICICI Prudential Liquid, Birla Sun Life Cash Plus, UTI Liquid Cash, SBI Premier Liquid, HDFC Liquid and Reliance Liquid Treasury which manage nearly 39 per cent of the total liquid AUMs. The FD, however, will score favourably among investors seeking assured returns unlike liquid funds that do not guarantee returns.
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