THE chief economist of a leading private sector bank says: Inflation is expected to fall to 0 per cent during the next six months. The factors contributing to this is the high base effect and the sharp decline in prices of many commodities especially oil which augurs well with regard to the inflation expectation of a commodity importing country like ours.

With inflation no longer a threat, the Government can focus on growth. In that order, the Central Government and the RBI have already announced a 5 per cent cut in the repo rate, and 4 per cent slash in the reverse repo to release a huge amount of liquidity.

Furthermore, with bond yields dipping as low as 4.86 per cent banks will lend more thereby giving a thrust to the credit cycle in the economy thereby sending a very strong signal to banks that the RBI is going to systematically disincentivise banks from using it as a safe keeper of their money. CRR, which is the share of deposits that banks need to park with RBI, has also been brought down to 5 per cent. The aggregate liquidity that has been released into the system due to monetary actions undertaken so far is expected to be in the region of Rs 300,000 crore.

What does this mean to you as a retail investor?
These strong measures will without any doubt see a sharp drop in interest rates. In fact, KV Kamath of ICICI Bank has gone on record to state that he expects interest rates to fall up to 5 percentage points over the next six months. So, what you need to do priority-wise is:

1. Park your money in bank deposits now, if you haven’t invested already.

Indicative returns: State Bank of India offers 7.5 per cent per annum on a 1 year fixed deposit and 8.75 per cent per annum for a period ranging 1 year to 2 years.

ICICI offers 9.75 per per annum for 390 days for deposits of less than Rs 15 lakh

2. With bank deposit rates coming off, alternate investments like company FDs are an attractive option too. Though monetary policy is being eased, real estate and construction sectors would find raising money from traditional sources difficult. Their immediate recourse would be to offer a higher rate on its corporate FD to retail investors. Company fixed deposits are unsecured loans and are not subject to a charge on the fixed assets of the company concerned. An attempt to earn marginally higher return could well prove to be one in which the capital itself may get unstuck. Company fixed deposits are unsecured loans and not subject to a charge on the fixed assets of the company concerned. There is a reason why banks are chary of lending to certain corporates and investors must undertake the necessary due diligence especially in the continued absence of an efficient and expeditious investor grievance and legal machinery.

Indicative returns: TATA Motors offers 11 per cent per annum on funds parked for three years in its fixed deposit scheme.

3. If I were you, I would prefer to put my money in gilt and long-term bond funds. Over the next twelve months or so, this is the space that offers the highest potential for safe yet attractive return. This will offer safe yet attractive return for over the next twelve months. Why? Interest rates and prices of fixed income instruments share an inverse relationship. When the overall interest rates in the economy rise, the prices of fixed income earning instruments fall and vice versa.

Next page: Understand why interest rates and bond yields share an inverse relation

Read: The best way to invest in gold

Photograph: Chung Sung/Getty Images

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e-mail: Sandeep Shanbhag

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