Impact 
In India, the finance industry has been seeking lower interest rates for a very long time. When the RBI aggressively cut policy rates over the last 15 months or so, the burden of the interest on companies eased up and now it is set to be slashed further in the near future. However, lower rates prompted banks to slash interest rates on deposits making investors jittery. Those whose incomes are primarily dependent on their earnings from the interest find it difficult to adjust to the changing macroeconomic environment. A 3-year fixed deposit that fetched 10% interest about four years ago, now carries only 8%. Retirees have written to the RBI Governor in the past expressing their concerns over the falling interest rates.
Dr Raghuram Rajan, a well-rounded person and probably the world’s best Central Bank Governor in the current times, tried applying the balm of his “Dosa Economics” to the policies for senior citizens.
Addressing their concerns, he said, “Say the pensioner wants to buy dosas and at the beginning of the period, they cost Rs. 50 per dosa. Let us say he has savings of Rs. 1,00,000. He could buy 2,000 dosas with the money today, but he wants more by investing.
At 10 per cent interest, he gets Rs. 10,000 after one year plus his principal. With dosas having gone up by 10 per cent to Rs.55, he can buy 182 dosas approximately with the Rs. 10,000 interest.
At 8 per cent interest, he gets Rs. 8,000. With dosas having gone up by 5.5 per cent, each dosa costs Rs. 52.75, so he can now buy only 152 dosas approximately. So the pensioner seems vindicated: with lower interest payments, he can now buy less.
However, wait a minute. Remember, he gets his principal back also and that too has to be adjusted for inflation. In the high inflation period, it was worth 1,818 dosas, in the low inflation period, it is worth 1,896 dosas. So in the high inflation period, principal plus interest are worth 2,000 dosas together, while in the low inflation period it is worth 2,048 dosas. He is about 2.5 per cent better off in the low inflation period in terms of dosa.”
Moral of the story is, sometimes lesser money buys you more and at times, even more money fails to offer you things in adequate quantities.
Unfortunately, the “Dosa Economics” doesn’t work as transparently as Dr Rajan expects. Have you ever seen rates of dosas or any other eatables going down once they go up? The cost of living goes down only on paper, in reality, the cost pressures keep creeping. Food price inflation is the biggest worry in India.
Dr Rajan’s ‘Dosanomics’ can be related to the ‘Burgernomics’ of The Economist. According to Burgernomics, if four units of currency ‘A’ buys one Big Mac burger and two units of currency ‘B’ can buy one Big Mac, then currency of B is said to be undervalued by 50%. The Big Mac Index is used to judge the purchasing power of different currencies.
‘Dosanomics’ tries to gauge the purchasing strength of the same currency in various phases.
It has been challenging for the RBI to create a transparent banking system so as to pass on the benefits of the policy rate cuts. We can only imagine the momentous task it is for the whole economy to become entirely transparent.
Like most new-age concepts, Dosanomics can only tell you how things could be and NOT how they are…
Impact
“Once bitten, twice shy” is an adage. The Finance Ministry of the NDA Government seems to be re-writing it in this fashion, “Twice beaten, (but) still not shy”.
The Finance Ministry attempted to tax the EPF investments (at the time of exit), which all trade unions unanimously and vehemently opposed. The Government had no option but to revoke the announcement to avoid unrest of the organised workforce. The Ministry assailed EPF subscribers for the second time when it tried constraining the EPF withdrawals before retirement. Naturally, this attempt didn’t fructify and the Government lost face again. Now in the third attempt, it tries to disapprove the Labour Ministry sanctioned rate of interest on EPF for the Financial Year (FY) 2015-16.
The Employees’ Provident Fund Organisation (EPFO) and the Labour Ministry had previously approved 8.8% interest for FY 2015-16. The usual practice is that the Finance Ministry approves the rates suggested by EPFO and the Labour Ministry. This year the exercise has been exceptional. The Finance Ministry has not been in favour of such a high rate. It has advised a 8.7% rate.
| Financial Year |
Rate of interest on EPF |
| 20111-12 |
8.25% |
| 2012-13 |
8.50% |
| 2013-14 |
8.75% |
| 2014-15 |
8.75% |
| 2015-16 |
8.70% |
(Source: Mint Dated April 26, 2016)
The EPF has nearly five crore subscribers who are clearly unhappy with the Finance Ministry’s proposal. Trade Unions have called for strikes and some have even called this ratification “unconstitutional”. The Labour Ministry too is clearly unsettled. Reacting over the Finance Ministry’s stance on the EPF rates, an official of the Labour Ministry said that, “Since the notification has not come, we’ll go to the finance ministry with a request to agree to the EPF board’s decision to give 8.8 per cent interest for 2015-16.”
Unlike the case of taxing EPF withdrawals or restricting those, Finance Ministry’s position on the interest rates appears somewhat balanced.
Let’s see what the Finance Ministry has to say:
The Finance Ministry is of the view that, a small cut of 10bps on the EPF interest rates can save Rs 326 crore for EPFO. According to the ministry estimates, the rate of 8.7% will eat into the accumulated surplus of EPFO. The payment of 8.8% interest will leave Rs 673.85 crores as against the balance of Rs 1,604.05 crores available at the end of FY 2014-15. The ministry officials question the ability of the EPFO to maintain the stability of the interest rate going forward, drawing attention to a crucial point. At present, the interest accruing on inoperative and dormant accounts is being passed on to the active members. However, the inoperative accounts are soon going to earn interest, which will make it difficult to maintain the same tempo in the future, especially considering the lower interest rate scenario that prevails.
The Finance Ministry also argued that along with interest rates on other small savings schemes becoming market linked, interest on the EPF should also fall in line.
PersonalFN is of the view that all Government ministries, trade unions, and EPF subscribers need to think from the long-term perspective. If the Finance Ministry recommendations would work for the common man in the long run, then trade unions and the Labour Ministry should avoid taking a fixed position on the subject. On the other hand, if the Finance Ministry genuinely feels it has a point, it should stick to its stance. It should overcome its tendency of going back on its position.
PersonalFN advises its investors to maintain a contingency fund to deal with unforeseen financial glitches.
Hopefully, all parties involved in the EPF debate have a consensus on this. ?
Do you agree with the Finance Ministry’s logic? Share your views here.
Impact
The BSE Brokers Forum does not seem to value the advice of this world’s most renowned value investor. The Forum wants to encourage retail investors to increase participation in the derivatives segment. Soon it will meet the chief of Securities and Exchange Board of India (SEBI) to discuss the way to increase the engagement of retail investors in Futures and Options (F&O) segment. This is how the Forum positions itself, “Direct participation of retail investors has reduced significantly in the last three years as they are preferring to participate in the capital markets through mutual fund route. Even though derivatives market is about ten times the size of equity markets in terms of volumes, the retail participation in the segment is very limited.”
Moreover, according to it, the remedy for this lies in this—“SEBI needs to adopt a procedure that would first increase the awareness levels of the investors. It also needs to simplify the KYC procedure so that opening a Demat account becomes easier for a common man.”
PersonalFN believes individual investors do not need derivative products at all. In the first place, derivatives do not qualify as an investment option for retail investors. Futures and Options (derivatives) don’t have any intrinsic value. They derive their value from the underlying securities. So basically, they are just the contracts.
For example, investing in “XYZ” company and entering the futures of “XYZ” companies are not the same investment decisions. A person taking a position in the derivatives of “XYZ” company, agrees to buy or sell the predetermined quantity of “XYZ” Ltd. for a pre-specified exercise price on or before the last date (expiry) of the contract. In this case, it is immaterial whether the shares trade at a higher or lower price on that day at the stock markets. Options give you a right to buy or sell the underlying securities/indices. Of course, there’s a cost associated with these rights. Unfortunately, what was invented as a means to beat market volatility and hedge the portfolio of underlying stocks is now being used as a profile-making tool. A derivative is a friend of institutional investors and a foe of retail investors.
Suppose a mutual fund scheme just finished collecting Rs 1,000 crore through a New Fund Offer (NFO). However, the fund house expects the equity markets to fall about 10% shortly. In such a case, it is tough to deploy money, as expected, if markets fall by 10%, the fund will stand to lose a massive Rs 100 crores. It cannot hold so much of cash anticipating that the markets will fall. Holding cash may prove to be a very pricey decision in the end, if markets don’t fall as expected. Now the fund can cut short an index (meaning it can sell the derivative contract on an index future) and invest the entire NFO proceeds in the stock markets. By doing this, it safeguards itself from falling markets. The contract on the index it sold would turn profitable if markets fall, limiting its losses in the stock markets. To ready more about this story and Personal FN’s views over it, please click here.
Impact
Financial Year (FY) 2015-16 was a good year for mutual fund houses. The industry’s Assets under Management (AUM) grew by 12%, from Rs 12.11 lakh crores in March 2015 to Rs 13.55 lakh crores in March 2016. Despite such growth in the asset base, the branch network of mutual fund houses has become contracted. In FY 2015-16, mutual fund houses closed down almost 46 offices nationwide. As a result, the branch network of the mutual fund industry shrank to 1,548 from 1,594. On a net basis, mutual funds shut 11 offices in Maharashtra alone followed by 6 in Gujarat and five each in Karnataka and West Bengal.
- Cases of mergers and takeovers are on the rise. The acquiring companies often close down branches of the acquired companies when the former has a branch in the same locality and the volume of business is not high enough to run them both.
- Cost cutting and systematisation of offices has also lead to the number of branches coming down. Many fund houses prefer to have one big office in a city instead of having three smaller officers, as a few experts opine.
- As per the data published by the Association of Mutual Funds in India (AMFI), 63% of liquid, 42% of debt, and 14% of equity assets come through the direct route. Barring equity, institutional investors dominate most of all the other categories, and they mainly prefer the direct route. More often, their investments are centralized meaning done from one location. This could be another reason for the fall in the branch network.
- Although the AUM of mutual fund houses has grown in FY 2015-16, the proportion of retail investors in the AUM has declined from 46.2% in March 2015 to 45.4% in March 2016, as the AMFI data suggests. Mutual funds usually slow down office expansions when incremental business becomes hard to come by.
- These days, almost all Asset Management Companies (AMCs) are encouraging investors to invest online and are also offering other brighter means of investing. This gives AMCs an option of not opening new branches when they are economically unviable.
- Many fund houses, especially those promoted by banks, use the bank’s branches to promote their products and save cost on having their offices.
To ready more about this story and Personal FN’s views over it, please click here.
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