Trading actively? You need “something just like this”

Lovers of pani puri (AKA ‘golgappe’, ‘puchka’, etc.) will know all about the ritual this line refers to. But if you’re unfamiliar with the strange customs and jargon of chaat enthusiasts, what you need to know is that ‘sukha puri’ is a dry stuffed puri that’s generally asked for at the end of a round of pani puri. It’s not obligatory for a seller to provide sukha puris, but pani puri fans consider it to be their entitlement.

Because sukha puris don’t require any extra payment, they add to the joy of having pani puri.

Now, what if we told you that you can get a sukha puri in stock investing as well? Something that comes for free, can provide you with additional returns when investing or trading in stocks, and that carries extremely low risk?

Yes, we understand this reaction. And no, we’re not kidding.

How is this possible?

This is possible thanks to a category of funds called liquid ETFs (exchange-traded funds). Liquid ETFs are passive funds whose portfolio consists mainly of overnight securities having one-day maturity. The units of such ETFs are traded on stock exchanges just like individual stocks and have similar settlement mechanisms.

Such ETFs don’t carry any equity market risk as they don’t invest in equities, and they have extremely low interest rate risk because the maturity of the underlying securities is very short i.e. one day. The returns of such ETFs are relatively stable and are associated with the risk-free rate prevailing in the country. They typically provide a higher rate of return than bank savings accounts and margin accounts held with brokers:

Nifty 1D Rate Index returns considered as proxy for liquid ETFs. Returns are pre-expense. ^ Savings interest rate of SBI considered. The comparison with bank savings accounts has been given for the purpose of general information only. Investments in mutual funds should not be construed as a promise, guarantee on or a forecast of any minimum returns. Unlike traditional saving instruments, there is no capital protection guarantee or assurance of any return in mutual fund investment.). Investment in mutual funds carries high risk as compared to the traditional saving instruments and any investment decision needs to be taken only after consulting a tax consultant or financial advisor. Past performance may or may not be sustained in future and should not be used as a basis for comparison with other investments. These figures pertain to performance of the index/Model and do not in any manner indicate the returns/performance of this scheme.

But in what ways can liquid ETFs generate additional income?

1. By enabling better use of idle money

In order to purchase stocks, an investor first needs to transfer money from their bank account to their broking account. Once a certain amount is available in their broking account, they can place orders to purchase stocks. Now, it often so happens that the money transferred to a broking account doesn’t get utilised immediately, and just sits there for a while. Such idle money in a broking account doesn’t earn any returns.

Thus, if an investor parks such unutilised idle funds meant for purchasing stocks in a liquid ETF, they can earn additional returns on it. Then, whenever the right opportunity arises to purchase a stock, the investor can sell their liquid ETF units and buy the desired stock.

Similarly, whenever an investor sells some stock units, the proceeds get credited to their broker account and remain idle unless they’re withdrawn to a bank account or used for another investment. This idle money, again, doesn’t earn any returns if kept in a broking account, and earns nominal returns if kept in a savings account. Instead, whenever an investor sells some stock and is unsure of what their next purchase will be, they can park the proceeds in a liquid ETF and earn additional returns on uninvested capital.

This approach can, of course, be implemented by traders as well.

2. By acting as collateral for margin requirements

When investors / traders trade in derivatives, they often need margin money in their account. Liquid ETF holdings can be pledged to get margin money.

After a haircut of 10%, the remaining 90% of the value of one’s liquid ETF holdings can be used as cash margin money. Most importantly, investors / traders will keep earning returns on the pledged liquid ETF units. It should be noted, however, that the margin provided against liquid ETF units can differ from broker to broker.

Thus, active stock investors and traders can get additional returns by pledging liquid ETF over keeping cash as margin (depending on the broker).

3. By enabling strategic asset allocation during bear markets

During bear markets, many investors and traders prefer to hold cash due to the absence of stock investing opportunities. Such investors can make use of liquid ETFs instead to park money and earn returns during phases when equities are providing negative returns.

There are many types of liquid ETFs available: which one should I buy?

There are three main types of liquid ETFs which differ in terms of how they handle returns — Dividend Payout Plan, Dividend Reinvestment Plan, and Growth Plan. None of these types is inherently superior to the others, as the returns from each are generally comparable. Therefore, investors should choose the type of liquid ETF that best aligns with their individual needs and preferences.

So enjoy your bonus treat!

In sum, liquid ETFs are the sukha puris of investing, as they can provide investors / traders with extra income and help them manage their cash flow better without taking on any significant risks.

If you’d like to speak with us about how a liquid ETF can benefit you, please click the button below and we’ll get in touch.