Budget 2019 has proposed to include exchange-traded funds (ETFs) investing in central public sector enterprises (CPSEs) in the Section 80C bucket under the equity-linked savings scheme (ELSS) category. In the past, experts have raised concerns that such ETFs invest only in a few sectors and government companies. In previous tranches, many investors entered to benefit from the discount on allotment and exited shortly thereafter. But this strategy may not work with the three-year lock-in that’s mandatory for availing deduction. Neil Borate asks experts whether the tax edge makes them more investment-worthy
It does not make sense for long-term investment
—Deepali Sen, founder, Srujan Financial Advisors
Given that the majority of the companies in the CPSE ETF are from the energy and allied sector (nearly 82%), the ETF is not truly diversified. Also, since all the companies are government-backed, it is not professionally run.
It is better (in terms of the amount of money required to be invested) owning the ETF than owing individual stocks separately. Through the former route, you get to bet on many businesses in one go. Another advantage is that most of these energy or infrastructure companies have monopolies in their sector. However, government interference in the way these companies are run leaves a lot to be desired.
What you would have invested in, to begin with (in terms of underlying companies), may not be the same after a certain point of time. This could happen with government shuffling its divestment candidates.
The discount offered that keeps varying with every tranche is attractive from the tactical entry perspective. Divesting through these ETFs may be a jackpot for the government, but not for long-term retail investors.
Tax savings and good returns will encourage investors
—Sundeep Sikka, chief executive officer, Reliance Nippon Life Asset Management
The CPSE ETF invests in 10 bluechip government maharatna, navratna and miniratna companies and allows investors to take a diversified exposure to the core sectors of the Indian economy such as oil, power, petroleum and minerals with a single investment product.
Given the government guidelines on minimum dividend payouts, CPSEs tend to have a liberal dividend payout ratio, which is also reflected in the higher dividend yield of about 5% for Nifty CPSE Index as against the current dividend yield of Nifty50 at 1.25%. The Nifty CPSE Index stocks are currently trading at nearly 34-46% discount to Nifty50 valuations, which offers investors a further opportunity for better returns.
While the discount offered to the investors in earlier follow-on fund offers (FFO) may not be relevant for making investment decisions, considering the lock-in period requirement, the tax savings, coupled with decent returns, will undoubtedly encourage investors to make fresh investments in CPSE ETF. This will help broaden retail participation in India’s growth story.
One needs to be mindful of concentration risk in CPSE ETF
—Anand Vardarajan, business head, banking, alternate products and product strategy, Tata Asset Management
Some of the CPSE companies are well-managed. Besides it also deepens equity market and tax breaks like this build equity culture among retail investors. Bill Gates once asked Warren Buffett, when there is so much wisdom available in public domain, why would someone not blindly follow Buffett and get rich. “Nobody likes to get rich slowly,” replied Buffett. Perhaps the lock-in feature in CPSE ETF provides some nudge.
CPSE ETF now qualifies for 80C deduction of ₹1.5 lakh, putting this at par with ELSS. Apart from the upfront tax deduction that one can claim in first year, there is also a discount given to retail investors who subscribe to CPSE, giving them an additional margin of safety. So far, retail investors mostly sell their holdings at the time of listing to pocket the discount, thereby trading for small gains, which can be sub optimal.
Benefits aside, while investing in CPSE, one needs to be mindful of concentration risk. Some of the ETFs launched came with less than 25 stocks in portfolio while ELSS funds would typically have more than 45 stocks.
Discount on offer may make proposition attractive
—Samant Sikka, founder, Sqrrl Fintech
Equity-linked savings schemes (ELSS) are more diversified than CPSE ETFs both in terms of the number of stocks they hold and the sectors that the companies in the portfolio represent. The fact that the ownership of these companies is also diversified in a mutual fund scheme is also a big difference vis-a-vis a CPSE ETF, which by design has been created to off-load government ownership in certain companies.
In modern economic practice, it is clear that governments are no longer good at running businesses. More often than not, government-owned companies have gradually eroded shareholder wealth. The businesses today require managements to be nimble and that is something governments are not very good at.
The discount can be an additional incentive for people opting for CPSE ETF to save tax. Tax-saving instruments generally have a lock-in and ELSS funds offer the lowest duration of three years. Tax break seekers, therefore, will be mentally prepared for the lock in. The additional discount has the potential to make the proposition attractive.