Have three-year horizon? Hold on to a corporate bond fund, say experts

Consider investing in target maturity funds and corporate FDs

Corporate bond funds have given a meagre category average return of 2.5 per cent over the past year. From a 12-month peak of Rs 1.61 trillion in August 2021, the assets under management of these funds has come down to Rs 1.27 trillion (April 2022 figure).

What do they offer?

Corporate bond funds carry a relatively low credit risk as they invest a minimum 80 per cent of their corpus in ‘AAA’- and ‘AA+’-rated bonds. The fund manager has the freedom to decide on the duration of the bonds he buys for the portfolio.

“As they invest 80 per cent of their corpus in higher-rated companies, they are safer than other debt schemes, such as credit-risk funds. They also run lower-duration portfolios and are less volatile than gilt funds and long-term debt funds. Their portfolios are also more liquid,” says Deepak Panjwani, vice-president and head-debt market, GEPL Capital.

The longer-term track record of these funds is sound: Over a five-year period ending May 25, their direct plans have given a category average return of 6.9 per cent (Source: Morningstar AWS database).

Mark-to-market (MTM) hit

With interest rates rising, many debt fund categories have come under pressure, including corporate bond funds.

“The 10-year government security (G-sec) yield rose as high as 7.49 per cent (intraday) in May. This hit corporate bond funds’ returns,” says S Sridharan, founder and principal officer, Wealth Ladder Direct.

He adds that with the Reserve Bank of India (RBI) signalling more rate hikes, their performance may not turn around for some time.

Stay put if horizon is long

Investors with a medium-term horizon should ride out the current volatile phase.

“Stay invested in these funds if you have an investment horizon of three years or more. Stagger your investments to benefit from falling net asset values,” says Panjwani.

Once the 10-year G-sec moves past 7.5 per cent and closer to 8 per cent, consider entering long-term bond funds or gilt funds to benefit from the subsequent turn in interest-rate cycle.  

Opt for target maturity funds

Target maturity funds that invest in high-quality bonds — G-secs, state development loans, and ‘AAA’ bonds issued by public sector enterprises — are a good option in the current rising interest-rate regime.

They carry low credit risk. Also, they terminate on a fixed date. If the investor holds these funds until maturity, he/she is not affected by MTM losses.

“Target maturity funds with residual maturity of around five years are offering attractive yields of 6.5-7 per cent currently,” says Deepesh Raghaw, founder, PersonalFinancePlan, a Securities and Exchange Board of India-registered investment advisor.  

Consider investing directly

Investors may also consider investing in bonds directly.

“When you invest directly, you get the comfort of investing in names you are comfortable with. You also get a defined rate of interest and don’t have to pay fund management expenses,” says Ankit Gupta, co-founder, BondsIndia.

Today bonds rated ‘AAA’ are offering 7.5 per cent yield, while those with lower ratings are offering above 9 per cent. Make sure the player you are investing with is not over-leveraged.      

Corporate fixed deposits (FDs) issued by companies with ‘AAA’ rating may also be considered for a one- to two-year time frame.

“Non-banking financial companies (NBFCs) offering 1-2 percentage points higher return than bank FDs can be considered by investors who want fixed returns. However, do look up the rating of the NBFC and the robustness of the underlying business,” says Sridharan.

Conservative investors should avoid papers rated below ‘AA’.  

Avoid locking in for the long term. With interest rates rising, get into a one-year instrument, so that you can later roll over into one offering higher yield. A longer tenure also increases the risk of default.    

If you have a seven-year-plus tenure, consider the Reserve Bank of India’s taxable floating rate bonds, which yield 7.15 per cent (whose rate of return is linked to the National Savings Certificate rates).