With inflation inching above the Reserve Bank of India's (RBI) comfort zone, there are expectations of the central banking rolling back its easy monetary policy regime and perhaps tighten liquidity.
The year 2020 was spectacular for debt funds investors who earned double-digit returns as interest rates fell. With expectations of rising rates, debt fund investors are staring at volatility from long-duration debt funds. This is already being reflected in Long Duration and Medium to Long Duration funds which have yielded negative returns year to date as on July 12, 2021. Ultra-Short Term, Floating Rate and Low Duration Funds have delivered the highest return during the same period.
We asked experts which debt funds are ideal to navigate the current interest rate trajectory. Here’s what they have to say.
Amol Joshi, PlanRupee
Choose a debt fund that is in line with your investment horizon and risk appetite. Most investors would do well by choosing a roll-down fund structure that matches their horizon. Roll down structures are available from 1-year maturity bucket to 20+ years maturity. Nearly all roll-down funds invest in the highest rated debt securities. Hence, by investing in these funds interest rate risk and credit risk are taken care of over a given maturity period. Roll-down funds are not a defined category. A few Corporate Bond Funds & Dynamic Bond Funds are currently running a roll-down strategy.
The decision to tinker with the existing debt fund portfolio would depend on the time horizon. If it is a year or so, then, while one thinks that rates may be hiked soon, it is not looking like a certainty. And even if the rates change direction, the hikes may not be significant to start with. Hence, stay invested in case a short tenure remains before you redeem. If you have several more years to go before you need this money, switch in 2-3 tranches over a year to roll down funds with a matching time horizon.
Dhaval Kapadia, Director – Portfolio Specialist, Morningstar Investment Advisers India
Given concerns around rising inflation and high government borrowing programme, funds investing in the short to medium duration bucket are looking relatively better from a risk-reward perspective. Within that space, Banking & PSU, Corporate Bond Funds and some allocation to moderate Credit Risk Funds can be considered.
Kavitha Menon, Mumbai-based Registered Investment Adviser
I feel the only safe place is Liquid, Ultra Short Term or Dynamic Funds. Accrual funds with a duration matching client requirements should also do well. Floating Rate Funds could work too but most fund managers are creating synthetic floating-rate portfolios since there aren't enough floating-rate papers in the market.
Rushabh Desai, Mumbai-based mutual fund distributor
With the new higher 10-year bond yield at 6.10%, the fear of inflation will keep bond markets volatile. This indicates there may be no room or very little room left to reduce the yields. Going ahead, once most of the population is vaccinated and the economy starts to completely open up, we will see yields rising further. At this juncture, I recommend investors stick with high credit quality debt products having shorter duration to minimize interest rate volatility risk. Investors should also look at shorter-duration debt products with roll down strategies. Investors should strictly avoid Medium Duration, Long Duration and 10-year Gilt Funds as they are most vulnerable at this point in time. Existing investors in Long Duration and 10-year Gilt Funds who are unable to withstand volatility and don't have a long time horizon should shift to short duration debt products.
Vinod Jain, Jain Privy Client
The last year has been filled with disruption. Returns have been muted in the G-sec segment and people are overly optimistic about the growth prospects. Typically, Bond Funds do well when growth disappoints. Investors should consider Dynamic Bond Funds and Gilt Funds. If interest rates rise, equity will do well but if they fall, gilt funds will protect investors.
