The gilt rush: Investors gild their portfolios in 'peak yield' euphoria

Government bond funds net Rs 2,000 crore investments in October

Gilt funds are experiencing a resurgence in demand, likely driven by the anticipation that government bond yields have reached their peak. In October, investors infused Rs 2,000 crore into gilt funds, marking the highest inflow in three years, excluding the Rs 4,400 crore received in March 2023 following the tax change.

Gilt funds, primarily investing in government bonds, are favoured for longer-duration investments. With an average portfolio maturity of four to seven years, they are more sensitive to interest rate changes, making them better positioned to benefit from potential interest rate cuts.

Over the past year, gilt funds have delivered returns ranging from 8.3 per cent to 5.7 per cent, according to Value Research data.

Experts suggest that the spike in yields after the recent Reserve Bank of India (RBI) policy may have prompted investors to focus on the long term.

“The yield surge after the RBI policy should have given some comfort to initiate investments in gilt funds. Certain investors may even be making tactical investments. However, committing to gilt funds is appropriate if investors have a medium-term holding period that can endure potential near-term volatility,” said Rajeev Radhakrishnan, chief investment officer (fixed income), SBI Mutual Fund (MF).

Bond yields experienced a sharp increase in October after the central bank announced plans to auction bonds through open market operations. After reaching nearly 7.4 per cent in October, the yield on the 10-year government security is currently hovering around 7.21 per cent. Regarding interest rates, fund managers and analysts anticipate that monetary tightening has paused, but rate cuts are not yet imminent.

“We bel­ie­ve that global monetary tightening has paused, although rate cuts are still some time away. The RBI will likely remain on a long pause as the government takes fiscal steps to manage inflation,” said Puneet Pal, head of fixed income, PGIM India MF.

“Given the recent rise in yields, which has delayed expectations of rate cuts, yields have entered attractive territory. Investors can consider increasing their allocation to fixed income as growth is expected to slow down towards the end of the year,” he added.

According to a recent note by DSP MF, the domestic yield curve will likely align more with US yields in the short term, and yields will trend lower in the next few quarters.

“We are not making a call on growth and inflation, which even central banks are struggling to project. Our view is based on the fact that the demand for Indian bonds remains much stronger than the issuances. While it may seem that yields have risen recently, the increase has been only of 10 basis points...”, stated Sandeep Yadav, head of fixed income at the fund house, in the note.