RBI move to boost short duration funds, soften borrowing costs for firms

Experts say funds exposed to lower maturity debt papers to gain from long-term repo operations

Debt fund managers are expecting short- and medium-duration funds to accrue gains from the Reserve Bank of India’s (RBI) long-term repo operations (LTRO), which is expected to bring down borrowing costs in the shorter-tenure market.

“The RBI has announced one- and three-year long-term refinance operations at the repo rate. Effectively, this will substantially cut the cost of funding for banks in that maturity bucket, which will also translate to yields in the markets,” said R Sivakumar, head of fixed income at Axis Mutual Fund (MF). “The move is expected to benefit short-duration funds and to some extent medium-duration products,” he added.

On Thursday, the RBI announced that starting from the fortnight of February 15, it will conduct term repos of one-year and three-year tenors of appropriate sizes up to a total amount of Rs 1 trillion at the policy repo rate. This will allow banks to partially borrow from RBI closer to the policy rate of 5.15 per cent.

“This move is expected to put downward pressure on G-Sec yields in the same maturity buckets (one- and three-year). As yields across corporate bonds are pegged against G-Secs, this should also soften borrowing costs for corporates,” said a fund manager.

Following Thursday’s announcement yields on one- and three-year G-Secs fell by nine basis points (bps) each. At Friday’s closing, the yields on one-year G-secs ended at 5.49 per cent, while yields on three-year G-Secs ended at 5.84 per cent. 

“Inducing liquidity tends to show a stronger impact on markets than rate cuts. We are already seeing yields softening in AAA-bucket. Going ahead, we could even see AA-bucket gaining from this,” said Dwijendra Srivastava, chief investment officer — debt, Sundaram MF.

Experts say this move can have a positive rub-off on products such as credit risk funds, which are required to invest at least 65 per cent of funds to AA-rated or lower corporate papers. The three-year yields for AA-rated FIMMDA (Fixed Income Money Market and Derivatives Association) India Corporate Bond have dropped 18 bps on Thursday.

So far, risk aversion has led to sharp outflows from credit risk category. In the current fiscal (2019-20), investors have pulled out over Rs 20,000 crore from these funds, shows data from Association of Mutual Funds in India.

Meanwhile, investors have pulled out Rs 8,194 crore from medium-duration funds in current fiscal and short-duration funds have seen net inflows of Rs 12,633 crore.

Short-duration funds lend to companies for period of one- to three-years, while medium-duration funds lend for three to four years.

In one-year period, short-duration funds have given returns of 5.6 per cent, whereas medium-duration ones have given returns of 5.4 per cent, shows data from Value Research.