Investors should temper their expectations from the equity schemes of the NPS.
Those who have subscribed to the National Pension System (NPS) ought to be very happy: its equity scheme has kept pace with the benchmark index to yield returns of 23% over the past year.
The double digit growth posted by Scheme E under NPS Tier-I account is not only in line with the BSE Sensex growth of 24% over this period, it also reflects the unbelievable returns posted by both Tier-I and Tier-II accounts in general.
So much so, equity and debt schemes by all pension fund managers fetched double-digit returns: HDFC Pension Fund earned 21.77% in Tier-I accounts, followed by ICICI Prudential Pension Fund with 20.50% and Aditya Birla Sun Life with 20.90%. Even the lowest return – from LIC Pension Fund in Scheme G of the Tier-I account – was in double digits: 17.96%.
By all reckoning, NPS looks like an attractive investment option right now. But can one assume a similar rate of growth and returns in the near future? To hazard a guess into future prospects of NPS, let us understand what it is for and how it works.
NPS is a state initiative to help Indian citizens aged between 18 and 65 to build a retirement corpus; it is specially designed to ensure subscribers don’t suffer from poverty in their old age. Regulated by the Pension Fund Regulatory & Development Authority (PFRDA), NPS comes with certain tax benefits.
NPS is broadly classified into two categories: Tier-I and Tier-II. The former is a mandatory account. In this, investment is locked till the age of 60 years, meaning this category is for retirement. A maximum of 25% can be withdrawn after three years. Tier-II, on the other hand, is a voluntary account with no lock-in on investment, so one can withdraw the amount even before attaining the age of 60 years.
If you invest in NPS, you will be mandatorily required to buy an annuity plan on turning 60 (the time of exit) with at least 40% of your corpus; the remaining 60% can be withdrawn as a lump sum and is tax-free. However, if you exit prematurely (before attaining the age of 60), you can withdraw only 20% of the corpus, while the remaining 80% has to be put aside to buy an annuity plan.
The annuity ensures you will receive a certain amount on a fixed frequency (usually every month) so as to ensure a steady income after retirement. It also prevents you from squandering the entire corpus. Bear in mind that the annuity plan has to be bought from one of the 12 insurance companies empanelled with the PFRDA; they are separate from the pension fund managers mentioned in the next section.
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You may wonder where NPS invests your money. Investments are made in various schemes by the NPS. There are eight different pension funds and four categories for investment. The empanelled pension fund managers (PFMs), to be chosen by the investor, are listed below:
- HDFC Pension Management Co
- ICICI Prudential Life Insurance Co
- Kotak Mahindra Asset Management Co
- LIC Pension Fund
- SBI Pension Fund
- UTI Retirement Solutions
- Birla Sun Life Pension Management
Within each tier, there are four categories for investment:
- Class E: Equity (This category is market-linked, so this is the riskiest but also more likely to garner high returns)
- Class C: Corporate debt (Less risky compared to equity, with lower returns)
- Class G: Government security (Same as above)
- Class A: Alternative investment (Offers options like property and infrastructure projects)
You have two ways to make your investment: automatic or active.
- Auto mode: You can mix the E, C, and G options as you like. The maximum permitted allocation towards equity is 75%; this is the scheme that has accounted for the high returns under discussion. (Note: Class A option is not available here).
- Active mode: In this method, the option factors in the subscriber’s age to ascertain the investment risks. If the subscriber is older, less risky and more stable investments are chosen.
You also get to choose the fund manager, but you are not allowed to pick multiple PFMs, say, one each for equities, corporate bonds, and government bonds. You can choose only one PFM to manage all your NPS assets. Therein lies your investment skills – choosing the right PFM to optimise your returns.
Related: Exit process is now made easier for e-NPS subscribers
The big question
This brings us back to our original question: now that we have a broad idea of what exactly NPS is and what investment in it entails, can we assume a high rate of growth going forward, and expect to earn similar return on our investments?
To address this query, we must first bear in mind that NPS is a market-linked product. So if NPS has posted unexpectedly high returns over the course of the last year, its schemes will always be vulnerable to market volatility. As a result, returns could be lower if the market falls. Of course, it can also go the other way and returns could be higher than what’s been posted so far.
As Harshad Patwardhan, CIO - Equities, Edelweiss Mutual Fund, points out in the course of a chat with Value Research, one must consider associated risks when deciding whether the current rally would sustain or not. “One can never be certain about anything in the market,” he said. “All I can say is that currently the positives are more than the negatives, but we are always watchful of any risks in the market.”
Related: How NPS has performed in the past 5 years?
In the end, we should remember that NPS is a long-term investment and treat it as such. Short-term returns should not really be our primary focus; nor should we shift to debt instruments from equity in search of higher returns. Instead, experts advise that we look at the long-term goal.
Your long-term goal should be to save for your retirement through the NPS, and not target double-digit returns. So, it is advisable to take a realistic approach and temper your expectations from the equity schemes of the NPS.