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Promoting rural savings through MMMFs

Megala R, a homemaker in Karambayam village, Thanjavur district (Tamil Nadu), was in a paradoxical position. She wanted to save regularly in a bank. But the nearest branch is in Pattukottai, around 10 km away. Distance apart, she found the process of opening and operating a savings account daunting -- an introducer is needed to open the account, and a minimum deposit has to be maintained.

Megala was a ready customer for a financial product, without a satisfactory product or provider.

The situation is repeated in millions of cases across rural India. While there are around 600,000 villages in the country, there are only about 45,000 rural branches of public sector banks and regional rural banks. The result: a huge demand-supply gap. Around 60% of India’s rural population remains ‘unbanked’.

This has serious implications regarding the ability of people in rural areas to save, accumulate capital, and invest in income-enhancing opportunities.

Anil S G, Senior Vice President, IFMR Trust, who has a wealth of experience in rural banking, explains: "Lacking savings instruments, rural households invest in informal savings vehicles such as gold, even if the returns on these assets are negative in the short run at times."

Household savings therefore constitute only a risk-coping mechanism; they do not enable people to take advantage of existing and emerging financial opportunities, he adds.

Sumathi S, PKGFS’s first MMMF customer, is a home maker who saves regularly
Sumathi S, PKGFS’s first MMMF customer, is a home maker who saves regularly

Policymakers are alert to the problem. By a notification issued in January 2006, the Reserve Bank of India (RBI) allowed banks to appoint ‘business correspondents’ to offer savings accounts on behalf of banks in remote rural locations.

The business correspondent model offers an alternative structure to branch-based banking, to ensure outreach of formal sector financial services to every citizen in the country.

However, there is a practical drawback: the RBI guidelines state that business correspondents must be located within 15 km of the base branch. This puts serious limitations on their reach and purpose.

In this situation, Kshetriya Gramin Financial Services (KGFS) companies, promoted by IFMR Holdings, have found a workable solution (to read about the KGFS model, click here).

Pudhuaaru KGFS (PKGFS), the first KGFS company launched by IFMR Holdings, in Thanjavur district, is promoting a mutual fund instrument that offers safety, ease of operation and the opportunity to earn returns comparable to, if not better than, interest earned on a bank savings account.

Since December 2008, PKGFS has been promoting among its customers ICICI Prudential Liquid Plan, a Money Market Mutual Fund (MMMF) product that offers easy liquidity and low entry requirements.

"An MMMF," explains Nitin Chaudhary, Senior Manager, IFMR Holdings, "is a mutual fund that invests solely in money market instruments, which are forms of debt that mature in less than one year and are very liquid. Treasury bills make up the bulk of the money market instruments."

The short duration of an MMMF investment portfolio makes it less sensitive to changes in interest rates, compared to other debt products of mutual funds, and portfolios are structured to generate optimum interest income -- there have been only a few, very rare cases in India where MMMFs have given one-day negative returns.

An advantage, compared to bank savings accounts, is that MMMFs earn compound interest; the interest earned is reinvested in the principal, earning more interest. In fact, MMMFs have been offering returns that are not only higher than returns on bank savings accounts, but even bank fixed deposits (see table 'Annualised tax returns on MMMFs').

Annualised tax returns on MMMFs
(returns over three months)

Parameters Instruments
Bank savings Bank fixed deposits MMMFs*
Annualised interest rate (yield) 3.5% 7.5% 8.06%
Tax rate** 33.99% 33.99% 22.06%***
Annualised post-tax returns 2.31% 4.95% 6.28%
*Quantum Liquid Fund ** Highest tax for individuals *** Effective divided tax paid from NAV
Source: 'Put "idle" cash to use', Business Line, August 31, 2008

The higher returns come with ease of operation. Anyone with a Permanent Account Number (PAN) card can invest in an MMMF, with as little as INR 100; no introducer is called for. Unlike many other mutual fund products, MMMFs usually do not carry an entry or exit load. That is, the customer bears no charge on investments or redemptions.

There is one disadvantage vis-à-vis a bank account. You can put in or get money out of a savings account immediately -- by going to the branch where you have the account, or going to an ATM. In the case of a mutual fund product, there is a one-day delay: a customer who submits a redemption request today, before a specified cut-off time, will get the money only tomorrow.

PKGFS customers, however, are spared even this inconvenience. The company has devised a system whereby investments made by MMMF customers on a particular day are transferred to an ‘investment parking account' and remitted to the mutual fund before the cut-off time, on the same day.

Likewise, on submitting a redemption request, the customer gets money from PKGFS immediately. The amount is treated as a loan, advanced by PKGFS for the period between the time the redemption request is placed and the redemption amount is received from the mutual fund.

With such ease of operation, coupled with security of the principal and relatively attractive returns, investments in MMMFs become a good way to build capital. This is what Megala is doing. She invests INR 100-200 periodically in MMMFs, applying for redemptions only when required.

Other customers like Rajkumar, who has a small cycle-repair shop next to the PKGFS branch in Karambayam, use MMMFs more like a savings bank account, by investing and redeeming frequently.

In the three months since it introduced the product, PKGFS has over 80 MMMF customers who have invested a total of around INR 70,000.

Any for-profit or not-for-profit private, professionally run or community-based organisation can replicate this model in a remote rural location, after securing the required certification to sell mutual fund products. However, some investment in technology is necessary.

Anil S G explains: "Distribution of mutual fund products is a highly data-intensive process requiring a lot of computation, with inputs from Registrar and Transfer Agents (RTAs) of mutual funds. Without a robust technology platform, mutual fund distributors will have to spend a lot on paper and paper transport costs, which may make MMMF distribution unviable."

PKGFS has invested in a proprietary Customer Management System (CMS), which is used to capture the demographic profile of its customers. The CMS generates pre-populated application forms, transaction feeds for different products, and also acts as an RTA database for the MMMF product.

PKGFS got around another obstacle faced whilst offering MMMF products: customers have to have a PAN card. While a PAN card is mandatory for income tax payers, many individuals in rural locations, who have low incomes, are unaware of PAN cards and the rather cumbersome process of obtaining one.

PKGFS manages this challenge by helping customers fill in PAN applications and sending the forms, in bulk, to PAN centres authorised by the income tax department. Customers have to pay a one-time application fee of INR 67. A photograph and proof of residence are required.

While these requirements would undoubtedly be barriers for the promotion of MMMFs in many rural locations, IFMR Holdings is ready to bridge a major part of the barrier.

Says Anil S G: "As part of our mission to maximise the financial wellbeing of every individual and every enterprise, by providing financial services in remote rural locations, we are willing to offer free software and training to organisations interested in offering MMMF products."

Read a detailed technical note on this subject by Anil S G and Nitin Chaudhary ( PDF ).

©2008 IFMR Trust. All Rights Reserved.
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