Debt fund managers prune G-sec exposure

Allocation to sovereign paper cut by 140 bps in the December quarter, for reasons related to a more bearish outlook; shift seen to CDs

With a deteriorating domestic interest rate outlook, India’s debt fund managers have cut allocation to government securities (G-secs) by nearly 140 basis points (bps) in the December quarter. Interestingly, the reduction in exposure came just after the Reserve Bank of India (RBI) surprised market participants with an unexpected 50-bp cut in its September review.

Prior to that, amid rising hope of quick cuts in interest rates, fund managers had been pumping money in government paper for the past year, at a pace which witnessed doubling of allocation. In a year, debt assets’ overall exposure to G-Secs had touched a high of 16 per cent in September against eight per cent a year before. However, since then, as the domestic and global macro economic situation started turning bearish, fund managers were quick to cut exposure.

In December, they allocated 14.6 per cent or Rs 1.32 lakh crore of debt assets to these securities, from Rs 1.41 lakh crore the previous month.

Killol Pandya, head of fixed income at Peerless Mutual Fund, says, “In September, RBI did engage in a 50-bp cut and made markets see positive moves. That time, the global scenario was relatively better — the China slowdown angle was still emerging and US Fed had not raised rates, while domestic inflation were lower at about 4.4 per cent.”

Explaining, “Over the past quarter, the domestic and global macro economic scenario is being perceived to be considerably more bearish. While domestic players are weighed with concerns such as Consumer Price Index-based inflation moving higher, slackness in private capital expenditure, a worsening fiscal deficit, especially on the back of the military pension rise and pay commission recommendations, foreign portfolio investors seem generally averse to emerging markets and a distinct flight to safety activity is being seen in asset classes. Part of the decline in G-Sec allocation is due to this.”

Gilt funds saw positive inflow in October, amid a rate cut by RBI. However, in the subsequent two months, money started flowing out from these. The total of assets under management of gilt funds, which typically invest in government paper, was Rs 17,463 crore as on end-December 2015.

According to Murthy Nagarajan, head of fixed income at Quantum AMC, “The G-Secs market has been volatile due to expected increase in the government borrowing programme, due to implementation of the pay commission report, and rupee volatility due to global selloff in equity markets. Fund managers have reduced exposure here and increased the allocation to short-term corporate bonds, to get accrual income. Right now, the difference between repo rates and short-term paper continues to be above 100 bps, and volatility is low in these paper.”

Fund managers remain wary of raising exposure to G-secs, as there is uncertainity surrounding the fiscal deficit and future rate easing by RBI. There are likely to be further cuts in allocation to G-sec instruments. “The domestic interest rate outlook has deteriorated,” says Pandya. The markets are not anticipating rate cuts any time soon and after the 125 bps already seen, the extent of incremental cuts is not expected to be high, he adds.

“In addition, there has been some muteness in the inflows being seen by MFs in longer duration funds, as investors are shifting to shorter duration products to protect against the high volatility seen nowadays. MFs and banks also seem to be preferring certificates of deposit (CDs), as a protection against the volatility seen nowadays. This has also contributed to the shift seen from G-secs to CDs, relatively less volatile and also enjoying high liquidity in our markets,” he explained. As an impact, allocation to bank CDs have gone up from 12.4 per cent to nearly 16 per cent.