Debt funds may bounce back on RBI's rate cuts

Debt funds may soon be back in vogue, thanks to yesterday’s rate cuts by the Reserve Bank of India (RBI). Experts opined that long-term debt fund returns would become more attractive going forward.

RBI slashed repo rate by 25 basis points to 4.75 per cent and reverse repo rate to 3.25 per cent. Repo is the rate at which RBI lends to banks while reverse repo is the rate at which banks park their surplus money with the central bank.

Government bonds reacted positively with benchmark government yields dropping to 6.18 per cent today.

However, fund managers said the outlook for liquid funds remained gloomy as short-term money market rates have come down due to the excessive liquidity in the system.

“Liquid funds will toe the line of money market rates. Three-month liquid fund returns are expected to be in the range of 4-5 per cent and six-month returns would come down to 5 per cent,” a fund manager said.

According to Value Research online, the returns for ultra short-term debt funds have come down to 1.42 per cent for the 3-month period. Liquid plus funds are curently yielding 8.40 per cent returns for one year.

Arvind Bansal, CIO (multi-manager funds), ING Investment Management, said that short-term funds may not see much of an upturn in sentiment. “Short-term rates have already come down significantly and spreads are on the higher side. For long-term funds, there is still some room left and yields may go down further.”

Long-term gilt and bond funds are expected to be benefited largely from these cuts. Medium- and long-term gilt funds are giving returns of 16.18 per cent per annum. The best fund in the category is posting 40.59 per cent returns.

“Rate cuts have come as a positive surprise for the markets. The yield curve has shifted downwards and it bodes well for both gilt and bond funds,” said K Ramkumar, fund manager, Sundaram BNP Paribas Mutual Fund.

Financial planners say it is better to invest in a long-term floating rate fund now as it offers lower volatility.

Floating rate funds are currently offering 8.76 per cent returns for one year.