Between March 2010 and October 2011, the Reserve Bank of India (RBI) raised the benchmark rate by 350 basis points. Till now, the central bank has cut rates only once, in April 2010 by 50 basis points. As of today, industry experts expect at least one rate cut over the next six months. “But no dramatic cut will happen,” they say.
The finance minister also wants the apex bank to cut interest rates in response to recent reforms announced by the government. Says Ramanathan K, chief investment officer of ING Investment Managers, “The chances of a cut in rates are lower in October. But, we are positive that we may see a cut in December. We are not sure of a cut in January.”
Hence, debt fund managers are of the view that putting money in duration funds could be a good investment option. “We know that rates will start coming down over the next six months. At this point, duration funds look like a good investment option. Investors need to be ahead of the curve,” says Ramanathan.
Duration funds are the same as long-term debt mutual funds. Here, fund managers take a call on a particular duration according to their view on the interest rates. Like Ramanathan believes that interest rates will go down in the next couple of years.
According to data from Value Research, a mutual fund rating agency, long- and medium-term gilt and long-term income funds have returned about 10 per cent in the past year (as on September 28).
If you are looking at investing in these funds, keep a horizon of two to three years and have an exposure of up to 10 per cent of your debt portfolio. Say, you have a portfolio worth Rs 1 lakh, of which 30 per cent is in debt (Rs 30,000). Then you can have an exposure of Rs 3,000 in long-term funds.
But, many others don’t share Ramanathan's view. Mahendra Jajoo, executive director & CIO, fixed income at Pramerica Asset Managers recommends short-term and dynamic bond funds. “Long-term debt funds are good products but not for now. These funds are best if you are sure that the interest rates will fall over the next two to three years. But, that may or may not happen. The bond market has been very volatile in the past year. And this may continue. Even if the rates don’t go up, they could stagnate. In such cases, dynamic bond funds have a better role to play than duration funds. Add to that, India’s fiscal deficit is high and the government borrowing programme may also rise,” explains Jajoo. Short-term debt funds have given similar returns as long-term funds.
| TIMING YOUR MOVES | ||||
| Category/Funds | 6-month returns | 1-year returns | 3-year returns | 5-year returns |
| Medium- & Long-term Gilt Funds | 5.49 | 10.06 | 6.37 | 7.42 |
| Long-term income funds | 5.29 | 10.05 | 7.19 | 7.51 |
| IDFC Dynamic Bond Plan A | 5.88 | 11.91 | 7.39 | 9.39 |
| UTI Dynamic Bond | 5.95 | 11.45 | - | - |
| Birla SunLife Dynamic Bond (Ret) | 5.61 | 10.74 | 8.17 | 9.66 |
| Taurus Dynamic Income | 4.96 | 9.97 | - | - |
| Canara Rebeco Dynamic Bond (Retail) | 4.7 | 9.14 | 6.46 | - |
| All figures in % | ||||
Some argue that dynamic bond funds and duration funds work on similar principle. But, dynamic bond funds take varied calls through the investment tenure depending on the interest rate movement unlike duration funds that take a definite call. For instance, if duration funds take a five-year call and sticks to it, dynamic bond funds may take a two-year call now and change it to three years in the course of investment. Duration funds are riskier than dynamic bond funds for they take a longer call. Dynamic bond funds have given between seven and 12 per cent in the past year. Says Hemant Rustagi of Wiseinvest Advisors, “We can never be sure of the interest rate movement. Even if the rates fall it may not be substantial and the risk of high inflation remains. Hence, I will go with dynamic bond funds. These funds can take advantage of fall in interest rates and not take very long duration calls.”
