Low interest rates set to provide flywheel to mutual fund industry

• Fund managers say unit trusts offer better returns compared to bank savings with rates on downward trend
• Note unit trusts provide investment opportunities that beat both low nominal interest rates and inflation
• Point out lack of knowledge as key reason for people not opting to invest in unit trusts

The mutual fund or the unit trust industry, which went on a rollercoaster ride due to the exodus of funds following new tax laws, is expected to make a comeback with fund managers eying a slice of the banking sector savings, offering attractive returns. 

Several fund management companies have already ramped up their promotional campaigns to woo, specially the mom-and-pop investors or the small-sized retail investors, who have hitherto patronized banks to park their savings. 

A unit trust fund by First Capital Holdings PLC is offering a return of 13 percent to its unit holders even when the market interest rates are on a downward trend, and is looking at luring the bank savers to its unit trust fund. 

“For instance, currently some of the unit trusts that we are running are yielding 12.77 percent, which is net of taxes as well. Then you knock off your inflation of around 6.0 percent, you are still left with 6.5 percent as a real return,” said Kavin Karunamoorthy, a Wealth Manager at First Capital. 

In comparison, one –year bank fixed deposit fetches not more than 10 percent at its highest in nominal terms, and one cannot earn more than five percent in real terms when accounted for inflation. 

Besides that, Karunamoorthy pointed out that bank interest is also liable for 5 percent withholding tax. 

Hence, the circumstances favour the unit trust industry as the banking sector interest rates are currently on a downtrend.  

Sri Lanka’s unit trust industry, which had assets under management (AUM) of Rs.133 billion by 2015, fell to Rs.100 billion AUM by early 2017 and saw further erosion due to the removal of the withholding tax exemption on dividends received by corporate unit holders and other tax reforms affecting the industry.

At the time, corporate unit holders accounted for over 80 percent of the AUM, as they used to park their excess liquidity at returns which are exempted from withholding tax.  

As Sri Lanka has almost reached the peak of its monetary easing cycle with back-to-back rate cuts, the traditional savers, who are at the mercy of bank interest rates, have received a raw deal with their real incomes either greatly waning or turning negative.

Meanwhile, the Central Bank has resorted to some unconventional macro-prudential measures such as deposit rate caps, which were rescinded with the imposition of lending rate ceilings from last week, to provide a tailwind for an otherwise slow monetary policy transition process, though its effectiveness is yet to be seen. 

As monetary accommodation takes its toll on the traditional savers, the fund management industry has revved up their efforts to provide more lucrative investment opportunities to the traditional alternatives offered by the banks, which according to them, beats both the low nominal interest rates and inflation.

Taking an example of a typical pay cycle of a salaried employee, Karunamoorthy said a good 40 to 50 percent of his or her income is spent immediately on commitments such as loan servicing, while the balance is often left to be lying in a bank savings account at very low rates until such moneys are being spent on household staples and others. 

“If one can carefully plan out one’s expenditure and the cash flows, unit trusts offer a better investment opportunity, where one can increase his returns while enjoying the same flexibility and the safety of a bank savings account as such moneys are kept with a trustee, which is often a bank, and the Securities and Exchange Commission (SEC) provides the regulatory oversight to the fund management industry.” 

According to Karunamoorthy, what hinders the masses of taking the advantage of this is the lack of knowledge of these alternative investment opportunities, and he believes the continuous awareness programmes could address this knowledge gap. 

Unit Trusts were introduced to Sri Lanka during 1991/92 with the main intention of broad basing the share ownership following the incorporation of the Colombo Stock Exchange (CSE) in 1985. 

But the objective is far from being achieved as there are only 40,000 investors, representing just under 0.20 percent of the population. 

First Capital Money Market Fund is a unit trust fund which at present offers returns of 12.77 percent and the funds that are collected from unit holders who are invested in fixed income securities such as Treasury bills, commercial papers and repurchase agreements taking positions on the future upside or downside on interest rates based on research, market insights and prowess in the fund management industry.