Focus on short end debt funds instead of long duration funds, as per MF managers

Focus on short end debt funds instead of long duration funds, as per MF managers

The MPC of RBI maintained its status quo on rates in its August policy. The repo rate and the reverse repo rate remained unchanged, even as inflation surprised on the upside. This year, the RBI has cut interest rates by 115 basis points already. This in turn has taken the repo rate down to the lowest ever, since it was introduced in 2000. As per the RBI governor, there is further space for rate cuts, though the pace for the same will most likely be low in the future. 

As per MF managers, investors need to be wary. 

In the near term, market yields might inch up a little. The RBI has done ad-hoc OMO purchases whenever yields have gone up, and market participants, therefore, need to be wary/ a future policy action is not ruled out yet, and hence markets will remain in a narrow trading zone. 10Y is expected to stay within the 5.75 to 5.95 percent range. 

The old ten-year bond is currently trading at 5.95 percent, and mutual fund managers do not believe that the market will fall further from these levels, since RBI tends to intervene at these levels. Supply pressure can put long term bond yields under pressure in the months to come; and investors are therefore advised to stay in short duration debt funds, away from duration and credit risk. 

Analysts were not expecting rates to go down even before the policy, since we are close to the bottom already. In the second half, more borrowings are expected; and the government has already announced an INR 4,2 lakh crore additional. Therefore, in terms of mark to market gains, there is no use to capture long term yields. 

Investors should now be conservative in terms of credit and duration risk. Rather than going to long-duration credit funds, it is best to focus on shorter end securities. 

Interest rates and bond prices tend to go in conflicting directions. As interest rates go down, existing bond prices go up. 

RBI had stated that it will maintain its accommodative monetary stance. The central bank is also in favor of continuing with easy liquidity conditions. Investors, right now, need to look at investments in short term bond funds and PSU funds, that invest in short- and medium-term papers to get higher accrual rates and also capital appreciation when rate cuts happen. 

Continue with a core allocation of 60-70 percent short term and 30-40 percent duration. Along with macro uncertainty, the structural market moves will also be punctuated with interim volatility. Therefore, do not get into duration trades that a horizon of fewer than 12-18 months.