Should investors change their debt strategy post rate cuts?

They should look at income accrual and dynamic bond funds that hold a combination of gilts as well as quality corporate bonds

The RBI made a surprise repo rate cut of 50 basis points through its September 29 Monetary Policy Statement, taking the repo rate to 6.75%. While the reaction in the stock market seemed a bit sedate, initially, bonds yields reacted positively, falling 0.14 to 7.58% (10-year 7.72% gilt) soon after the announcement.

The current rate cut is clearly a boost to the debt market. A rally caused by easing yields could lead to capital appreciation in gilts as well as corporate bonds. That means medium to long-term debt funds could gain further, even though many of them touched double-digit one-year returns already.

For retail investors, we continue to recommend income accrual and dynamic bond funds that hold a combination of gilts as well as quality corporate bond instruments.

RBI’s willingness to accommodate, based on further data, suggests that there could be room for more rally in debt. That means gains may accumulate over a longer period than at one shot.

For the stock market, a 75-basis point rate cut until June resulted in just around a 35-basis point transmission in terms of lowering borrowing costs. The 125-basis point cut, in all, certainly leaves much more scope, in part at least, for borrowing costs of companies to ease. If this happens, improved margins, both from lower input cost and interest cost could bring cheer to companies with debt in their books. We do not expect such rate cut to immediately translate into investment activity since the capacity utilisation (in manufacturing) is said to be around 70-72%, leaving scope for improved utilisation than addition to capacities.

The writer is Head of Mutual Funds Research at FundsIndia.com