Debt funds: Do exit loads benefit investors?

A higher charge works in favour of long-term investors

 

Quite a few debt funds have rejigged their exit load structures in the last one month or so. Is it in the interest of investors? Yes, and no.

(An exit load is a fee charged to investors if they sell out within a stipulated period.)

The central bank maintained a status quo on key policy rates in its policy review on Tuesday. While the RBI governor gave enough indications that a rate cut may be in the offing in the near future, the market has already started factoring in a rate cut given that the yield on the benchmark 10-year G-Sec has fallen from peak levels of 9.1 per cent in April this year to about 7.96 per cent.

Many savvy investors, too, citing the trend have latched on to debt funds to make a quick buck. While abrupt exits from funds mean lower assets under management (AUMs) for the asset management company (AMC), industry experts say this could hurt the performance of schemes and is detrimental for investors.

Which is why more than a dozen schemes have recently tweaked exit load structures - extending the tenure before which an exit load gets charged to investors and/or increasing the quantum of loads.

The aim is to dissuade investors from taking short-term calls on interest rate movements and exiting prematurely. "Fund houses would prefer long-term money coming into their debt funds. Quick exits can disturb the portfolio and hurt the performance of a scheme," said Niranjan Risbood, director, fund research, Morningstar India.

It's mostly the long-duration bond funds such as income funds and dynamic bond funds that have changed exit loads. For instance, SBI Dynamic Bond Fund has revised its exit load to one per cent from half per cent earlier as well as extended the tenure to one year from six months.

"Income funds typically go with either a duration or credit strategy, and both these strategies would require a longer holding period. Hence, the exit load for many of these funds is for a longer period," said Vidya Bala, head, MF research, FundsIndia.com.

A rejig in exit load structures can impact short term debt investors. The load will serve as penalty for exiting prematurely and eat into gains, if any, made by these investors. The load is charged on the investor's total corpus at the time of exiting.

Long-term investors, though, stand to benefit. A higher charge or tenure will discourage those hoping to make quick gains by betting on a rate cut from entering such schemes. If some short-term investors do exit, the exit load paid by them will be ploughed back into the scheme. This will result in a gain, albeit marginal, in the fund's net asset value, indirectly benefiting investors who stick with the scheme.

Interest rates and bond prices are inversely proportional to each other. When interest rates fall, bond prices rise and when interest rates rise, bond prices fall. The longer the average portfolio maturity of a bond fund, the higher the price gains or capital appreciation when interest rates fall. In the current scenario, with interest rates expected to inch lower, duration funds should do well.