Returns of most debt fund categories plummet below 5%, shows data

'Extraordinary scenario' say experts as both, short and long-duration funds give low returns

Most debt fund categories have generated returns of less than 5 per cent over the past year as interest rates have remained low. Of the 17 debt fund categories, 13 have provided returns of less than 5 per cent, while credit risk funds have given the highest returns of 8.29 per cent.
 
Data from Value Research shows that categories such as overnight funds, liquid funds, money market funds, and gilt with 10-year constant duration have provided returns of less than 4 per cent in the period.
 
Joydeep Sen, consultant with Phillip Capital fixed-income desk, says: “The Reserve Bank of India (RBI) has reduced repo rate by 2.5 per cent between February 2019 and May 2020. This resulted in a rally in bond prices and fall in bond yields. The rally has stopped over the last few months, which has resulted in the benefit of the MTM component, which was there earlier, not available now. Moreover, the accrual level in portfolios of debt funds has come down post the rally.”
 
Debt funds generate returns from two sources: Accrual (coupon inflows from the instruments in the portfolio) and mark-to-market (prices of the securities moving up or down in the market).
 
Avnish Jain, head of fixed income at Canara Robeco AMC, says: “The RBI has continued with the accommodative stance to ensure that Covid-19’s impact on the economy is mitigated. Even now, overall short-term rates are lower and even in the next one year rates are likely to remain low.”
 
The prices of fixed-income securities are governed by interest rates prevailing in the markets, and they are inversely proportional. When interest rates decline, the prices of fixed-income securities increase, and vice versa.
 
Vidya Bala, founding partner and head of research and product at PrimeInvestor, says the yield of 10-year government securities and long-dated papers has been inching up in the last few months despite the RBI’s intervention and this has caused the returns of long-duration funds such as gilt funds to crack.

Gilt and long-duration funds have given returns of 3.66 per cent and 4.36 per cent, respectively, in the last year. Longer-duration funds invest in papers that have maturity of more than seven years.
 
“It is a kind of extraordinary scenario where both short and long-duration funds are giving low returns. Typically, when the growth rate is low, the RBI cuts rates, which results in gains for long-duration funds, and when rates are hiked the shorter-duration funds with accrual strategy benefit,” added Bala.
 
However, the fear of a looming interest rate hike has led to investors move their money to liquid and money market funds. Over the past four months, liquid funds have received inflows of Rs 29,800 crore, while money market funds have seen net inflows of over Rs 31,500 crore.
 
“Investors looking at staying invested for a longer duration may look at traditional investment options such as RBI floating rate bonds, senior citizen schemes, etc, to lock in at higher rates. New investors in MFs are better off investing in shorter-duration funds that may benefit from a rate hike in the coming months,” added Bala.