Though the central bank kept key rates unchanged in its recent mid-quarter monetary policy review, its signals of a focus on growth have fuelled expectations of rate cuts early next year. Debt funds, which of late have witnessed rising interest among investors would be a beneficiary if this happened. Amit Tripathi, who recently took charge as the head of fixed income at the country’s second largest fund house, Reliance Capital Asset Management, says adding duration to portfolios will benefit investors in the current scenario. In a conversation with Chandan Kishore Kant, he says government securities and triple-A public sector bonds look the most lucrative. Edited excerpts:
After the Lehman crisis, debt mutual funds have found interest among investors. How is the scenario changing?
Interest and awareness among investors for debt funds is on the rise. How much of it has to do with money moving out of equity funds and coming to debt, I may not know. People are looking at asset allocation much more closely in the last four-five years, which I understand has resulted in higher interest in the debt category. And, a lot of it, which earlier was restricted to fixed maturity products (FMPs), has started diversifying into open-ended schemes. Monthly Income Plans, for instance, have generated a huge amount of retail participation; dynamic bond funds are another product category which have seen investors stepping in. So, it means a rising trend of debt allocation.
Equity markets are only 10 per cent away from their historical peaks. Does it make sense for investors to continue with their investments in fixed income products, amid hopes that equities might rebound?
The broader issue we need to address is asset allocation. Irrespective of the time period you are looking to invest for, there has to be a basic asset allocation one should do in the background. Today, in an environment where we have seen interest rates broadly peaked out and over the next 12-24 months we are likely to see a gradual drop in rates, it makes sense for investors to add duration to their portfolios.
How would adding duration help investors?
It’s my first advice. If investors come in an all-weather fund, automatically durations are added to their portfolios when the general environment is such that interest rates will come down. The fund will itself manage duration proactively, to make money when the going is good and preserve capital when in an adverse situation as far as the rates are concerned. From a retail investor’s perspective, these are the products one should be concentrating on, which actually are used as more like a debt allocation, rather than purely a timing or interest rate strategic kind of a product.
Gilt funds have seen a rise in retail folios, as well as inflows. How do you see these doing?
Because there is an expectation that interest rates will go down, more people are coming to gilt funds. Gilts give you the maximum credit comfort, as they are the least credit-risk products or a zero credit-risk product. But, obviously, gilt funds run interest rate risks. If the interest rate actually falls, as is the expectation, you make higher returns. If they do not fall but rise, then you lose in terms of capital depreciation.
Amid the high rate cuts expectation early next year, how are you positioning yourself in investment strategy?
As on today, obviously with the expectations that interest rates are likely to decline, one would like to be over-weight on duration. When you do, a higher allocation will go into assets such as government securities and triple-A PSU bonds, among others. These not only provide a duration exposure but are also fairly liquid for you to manage that duration efficiently.
Is there a degree of caution you are maintaining? In case things don’t change in line with the expectation, then what?
All of us understand that there is a lot of flux in the macro environment, domestic or abroad. While the broader view is that rates will go down, when you are implementing a duration strategy, you should implement this through the most liquid instruments. If, unlike expectations, interest rates move up or it does not move down to that extent, how do you protect yourself? By staying in the most liquid instruments in which you are running durations, so the duration part of returns will be delivered as long as interest rates move down. By remaining in liquid instruments, you are ensuring that in an eventuality where it does not play out the way it has currently been envisaged, you can come out of it with the least impact cost. So, remaining invested in the most liquid of the category is important.
What would be your advice to investors who are looking at debt funds for the first time?
FMP is the best entry-level debt product for any investor wanting to come to debt mutual funds. This product is the easiest to understand and does not carry any interest rate risk, other than the opportunistic cost of investing now vis-a-vis three months down the line, etc. This product can be explained easily at the retail level. There is a degree of sophistication required when looking at any financial investment, which in case of the FMPs is much less. More, a lot of the risks perceived to be associated with FMPs have also gone out. It’s a simple and good product for entry-level investors and is tax-efficient, too.
