Move with the rates

Remain nimble in your debt portfolio to take advantage of rising rates

With the December inflation rate at 7.31 per cent, returns from an investor's debt portfolio are likely to be hit. The real returns, popularly known as inflation-adjusted returns, are likely to be much lower.

At the same time, there are expectations that the Reserve Bank of India (RBI) is likely to hike indicative rates to curb inflation pressures. In this situation, investors will have to take a call soon on identifying the correct instruments for, either rejigging an existing portfolio or creating a new one. However, at present, it's best to stay put in instruments that allow you to move money as per market conditions.

Let us take a couple of examples and see how it can be done. A 35-year old person creating a new portfolio with a 70:30 equity-debt allocation needs to take small steps. According to experts, they should divide the 30 per cent equally between short-term bond and liquid-plus funds.

Said Mahendra Jajoo, senior vice-president and head of fixed income of the soon-to-be-launched DLF Pramerica Asset Management Company, “Last year, while returns from gilt and income funds were in negative or near-negative territory, short-term bond funds gave 7-7.5 per cent returns. Put15 per cent of your debt portfolio in these funds for six months to one year period.”

Since short-term bond funds invest in money market instruments, their portfolios keep getting re-priced as per market movements.

“Though returns are not guaranteed, these funds have low risk because they are constantly churned to reflect market realities,” added Jajoo.

The other 15 per cent should be invested in liquid-plus, rechristened as ultra-short term funds, because you can get quick liquidity. Investing in liquid-plus funds helps keep the portfolio nimble. "One can withdraw quickly from ultra-short term funds and invest in fixed maturity plans when interest rates start going up," explained Jajoo.

For safety-first people, putting 15 per cent of the debt part in company fixed deposits can get them annual returns of around 9-10 per cent.

Bank fixed deposits, as of now, are offering returns that are quite low.

For someone, who is already invested and looking to rejig the portfolio in the same 70:30 ratio, here are some pointers. For one, if you are already-invested in a ultra short-term bond fund and have a further horizon of up to three months, stay invested.

However, if the time horizon is six months to one year, switch your money to short-term bond funds to improve returns.

"Long-term investors, who are waiting for the right moment to get into a medium-term fund or FMP, need to wait for another quarter or so before taking the plunge," said Hemant Rustagi, CEO, WiseInvest Advisors.

He reasoned that a clear picture will emerge post-Budget on the government's borrowing programme. And based on the scenario, one would be able to decide whether to enter medium- or long-term funds. Investors, who have already invested in short-term bond funds with a time horizon of six to 12 months, stay invested.

If you have invested in a medium-term bond or gilt fund, don't be in a hurry to exit. “Ideally, investors in such funds should have exited a year back. Since they are still in, they could stay invested for at least a year or more,” added Rustagi.

Investors in arbitrage funds should be moving their money to either an ultra short-term bond fund or short-term bond fund.

 

DEBT FUNDS DEMYSTIFIED

Ultra short-term funds: They invest in debt and money market instruments with a maturity ranging from 90 days to one year. Though they are riskier than liquid funds, investors get better and more tax-efficient returns.

Short-term bond funds: They invest in debt and money market instruments for one to two years.

Medium -term debt funds: They invest in bonds, debentures, government securities and money market instruments. They are more volatile in nature as their portfolios have instruments with longer maturity duration. But returns can be better.

Gilt funds: They primarily invest in government securities issued as a part of the government’s borrowing programme. Suited for those who are seeking safety and liquidity, the downside is that their prices fluctuate sharply due to higher sensitivity to interest rate movements.

Arbitrage funds: They aim to take advantage of the arbitrage opportunities that exist between the cash and derivatives markets. They buy in the cash market and sell futures at the same time. These funds are also called ‘market neutral funds’.