Relaxing EPF investment guidelines for better returns

Many employees who contribute an amount to the Employees’ Provident Fund (EPF) will now be impacted on account of a change that will come into effect on April 1, 2009. The change will be visible for the management of privately-managed trusts and will impact the manner in which return for investors is generated by them. A proper analysis of the change is necessary for investors to get an idea of the impact on them.

Management of funds
The amount contributed to the EPF by an employer as well as an employee is managed in two different ways. One way is where the amount is transferred to the common fund managed by the Employees’ Provident Fund Organization (EPFO). Here, the money is pooled in from all the contributions and then managed collectively.

The other way is where some organizations set up a trust of their own to manage the fund money. These trusts have to invest the money according to the investment guidelines framed by the EPFO. It is these trusts that will be witnessing the change in the manner of fund management. Earlier last year, the new rules called for a change in the investment pattern and now the Central Board of Direct Taxes has brought out a notification that aligns the tax benefits for the funds along the changes made. This will encourage the trusts to make use of the changed investment guidelines.

Equity component
The first impact will be witnessed with respect to the amount that can be invested in equities. The limit for this investment has been increased from the existing 5 per cent to 15 per cent. This includes the stocks that are present in the derivatives area of the stock exchanges. Immediate impact of this might not be felt but there will be major changes that can take place in the portfolio in the coming years.

With equity markets lying low, there might not be a situation where the trusts rush in to invest in equities immediately. But all those who systematically build up a good portfolio during these tough times will be able to benefit when the market turns around, and this will bring in return for trusts. This can prove to be a relief for the fund managers because it has the potential to boost the overall return. Private trusts have to ensure that they pay out at least the amount that has been recommended by the central organization, and as they cannot afford to fall back on the return part they have to ensure return is being earned by the investments.

Government securities
The trusts can also invest up to 55 per cent of their funds into central and state government securities and units of mutual funds that invest in such securities. This will bring into the ambit gilt funds that can be used by the trusts to park the money. There is also another limit of up to 40 per cent that can be used for debt securities that do not have a maturity of less than three years and are issued by companies, banks and financial institutions and even term deposits of scheduled commercial banks. This guideline will help in ensuring that the debt part of the portfolio has the necessary choices for the fund manager to ensure proper utilization of fund.

Risk part
While the main attention is on the manner of the investment and the potential for higher return it can generate in the future, there is another aspect that has to be kept in the forefront. It is the risk that involves in the entire process because the move towards equities and other market-related areas will increase the risk element. The management of this risk is important because this will determine how the overall performance stands up after a certain number of years.

Only a proper balance of the risk and the possible return can ensure a good management of the funds in the scheme. The retirement hopes of employees are lying in these funds and hence they have to be managed keeping all these considerations in mind.

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