VRS funds: Active interest is better

Suresh Krishnamurthy

THE number of companies that are coming out with voluntary retirement schemes (VRS) have increased manifold in the recent past and it is not surprising that financial institutions such as the ICICI have turned their attention to this investor segment. However, if ICICI's Pension Bond is any indication it may not be in the interests of these investors to invest in these schemes.

The advantage that investing in a Pension Bond offers an investor is that he no longer need worry about his monthly income for a substantially long period in future. However, the disadvantages are numerous. For one, the returns are quite low. Second, the credit risk of the institutions concerned and the risk involved in interest rate movements -- the interest rate can move up -- suggest that investing for a substantially longer-term period may not be such a bright idea. In fact, investing substantially in any particular maturity duration is not recommended at all.

A better option for investors would be to take a more active interest in managing their funds to achieve decent returns and to protect their capital. Even for an investment in a pension bond, the principal component received each month would have to be reinvested by investors if they want to maximise returns. If investors fail to reinvest, the returns would be abysmal, suggesting that active fund management cannot be avoided.

Investors should also not lose sight of the need for diversification. It would be better for investors to diversify between floating maturity investments such as mutual funds, and fixed maturity investment options such as fixed deposits and bonds. Active fund management by mutual funds would give investors an opportunity to benefit from interest rate movements, while the exposure to fixed maturity investment options provide the investor with a cushion to guard against any adverse interest rate changes.

Most importantly, investors should try to utilise the Government's small savings schemes to the maximum possible extent. These schemes are still a `high interest rate island' in the economy in relative terms. The Public Provident Fund that offers a tax-free return of 11 per cent is ideal for investors who do not expect any regular income for at least 15 years. For investors seeking a monthly income, the Post Office Monthly Income is a decent option. Investors who want to cumulate their investments for a shorter period of time than the PPF can opt for the Kisan Vikas Patra instead.