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Debt MFs face lower risk, may put up a better show in Samvat 2079

Analysts advice investors to stay away from longer-duration funds yet, or consider a staggered plan

samvat, stock market, diwali, hindu calendar
Abhishek Kumar Mumbai
3 min read Last Updated : Oct 24 2022 | 11:04 PM IST
Samvat 2079 could be rewarding for investors in debt mutual fund (MF) schemes, after disappointment in the last two years.

Debt MFs are looking up after struggling to beat inflation in the last few years. Considering the present yield-to-maturity (YTM) of most debt fund categories, there is a good chance that their return chart will look much better next Diwali.

All fund categories, be it a short-duration liquid fund or a longer-term gilt one, seem to be outpacing inflation to deliver slightly higher returns than bank fixed deposits. Owing to the rate hikes, the YTMs of shorter-duration funds have reached 6-7 per cent, while they are at 7-8 per cent for longer-duration funds, according to Value Research data.

Moreover, debt funds are likely to face lower risk as interest rate changes are expected to hold later this year. Most experts believe that the Reserve Bank of India (RBI) will freeze the rates for a while after a couple of more hikes. They expect the RBI to raise the repo rate to not more than 6.5 per cent in the second half of the financial year (FY) 2023 from 5.9 per cent currently.

A rise in interest rates has a negative impact on bond prices and hence debt fund returns take a hit too. Back-to-back rate hikes and low-interest earnings were the major reasons behind the poor performance of debt funds in the past couple of years.

However, analysts are still asking investors to either stay away from longer-duration funds or invest in parts over a period of time.

"The uncertainties are still there and short-to-mid maturity funds are likely to deliver returns similar to that of longer duration funds till the next rate cut cycle begins. In such a scenario, it’s better to stick to the less-volatile funds — short-to-mid maturity schemes like money market and corporate bond funds," said Joydeep Sen, corporate trainer and author. This is because interest rate hikes (which are not yet over) have a bigger impact on longer duration bonds.

"Investors looking to invest for a longer horizon can take a staggered approach to reduce the risk," he added.

Fund managers also believe that the risk-reward ratio is in favour of the short end of the yield curve.

"The one-year AAA corporate bonds are trading in the range of 7.70 – 7.75 per cent , the 3 year rates are trading in the band of 7.75 per cent, the five year rates at 7.85 per cent levels and ten year are in the band of 7.90 - 8 per cent levels. Given this level of the flat yield curve, the risk-return reward is in favour of the short end of the yield curve," said Murthy Nagarajan, head-fixed Income, Tata Mutual Fund.

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