All this volatility has resulted in medium-term debt fund investors getting negligible returns over the last one year. However, long-term investors enjoyed the benefit of fairly reasonable returns.
The balance of opinion is still towards a hardening of rates and it would be prudent for investors to invest in liquid funds or floating rate funds now.
Only when there is greater clarity on an interest rate trend, should one venture beyond these funds. Hopefully, the credit policy later this month will give some indication as to what steps would be taken to stabilise interest rates.
By staying invested in liquid funds or floaters, investors will be able to avoid any capital erosion resulting from rising yields.
The short end of the market is expected to remain fairly stable and liquid funds, which invest primarily in money market instruments and cash equivalents, will deliver consistent returns. Floating rate funds also afford investors the opportunity of earning stable accrual income with no capital erosion.
Floating rate funds, which invest in a combination of floating rate instruments, interest rate swaps and money market instruments, will not be hit by rising yields. In the medium term, rates are expected too stabilise.
This will happen as inflation comes off its highs and liquidity in the system stabilises. Investors will also have a clearer view of the rate policy stance of the RBI and the government.
That would then be the appropriate time for long-term debt fund investors to re-enter medium-term funds.