Short-term debt MFs likely to gain from RBI policy stance: Market players

Prices of fixed-income securities have an inverse relation with interest rates. When the latter decline, prices of fixed income securities increase and vice versa

The Reserve Bank of India (RBI) has kept the key policy rates unchanged even as some experts were predicting tinkering with the rates to rein in the surging inflation.

Market participants say the current policy stance suits short term-oriented debt mutual fund (MF) schemes. They say imminent increase in interest rates going ahead could negatively impact returns of long dated schemes more.

“RBI policy is more dovish than expected. Focus is clearly on supporting growth. Fears over inflation flare up, global changes in interest rate policy, and high commodity prices are ignored. Policy is good for short term bond funds and roll down mutual fund debt schemes with current maturity lower than three years. The longer maturity funds of 5- to 10-year maturity may underperform due to rising inflationary pressures,” said Sandeep Bagla CEO TRUST Mutual Fund.

“As the RBI sucks out the excess liquidity in the banking system over the next month, we would expect the overnight rates to move from the current levels of 3.35 per cent (reverse repo rate) towards the repo rate of 4 per cent. This would mean that accrual returns on a very short term, low market risk products like overnight and liquid funds could rise in the coming months,” added Pankaj Pathak, Fund Manager-Fixed Income, Quantum Mutual Fund.

Typically, the prices of fixed-income securities are dictated by prevailing interest rates. Interest rates and prices are inversely proportional. When interest rates decline, the prices of fixed income securities increase. Similarly, when interest rates are hiked, the prices of fixed income securities come down.

Longer duration debt instruments are prone to volatility during the period of rising interest rates. During such times, investors can now look at liquid funds, ultra-duration funds and short to medium duration bond funds, say experts.

 “The RBI commentary indicates that the RBI is in wait and watch mode to ensure monetary policy remains supportive of growth and the hard-fought recovery is not derailed by policy action to normalize rates in a hurry. Surprisingly, the RBI remains comfortable with inflation despite the threat of imported inflation across much of the developed world,” said R Sivakumar, head fixed income at Axis MF in its note.

Continuing the trend of expanding the variable rate reverse repo (VRRR) program the monetary policy committee (MPC) proposed to enhance the 14- day VRRR auction amounts on a fortnightly basis. About ~6.5 trillion on December 17 and further to ~7.5 trillion on December 31. Consequently, from January 2022 onwards, liquidity absorption will be undertaken mainly through the auction route.