Longer-horizon debt funds lose return edge over shorter-duration peers

As the surge in g-sec yields remains a drag on long-duration and g-sec scheme performance

Longer-duration debt mutual funds (MFs) have lost their return edge over shorter-horizon peers as a sharp rise in government security (G-Sec) yields has weighed on their performance.

 

G-Sec schemes and long-duration funds — categories that have the mandate or flexibility to invest in long-dated government papers — have delivered average annualised returns of 7.4 per cent and 7 per cent, respectively, over the past three years. These returns trail those of most short- to medium-duration schemes. 

Typically, longer-duration funds are expected to outperform medium-to-long investment horizons as their exposure to higher-duration papers enhances return potential. However, the recent surge in yields has eroded this advantage. 

A sharp rise in bond yields over the past eight-nine months has weighed on the performance of debt schemes, with schemes that invest in longer-dated papers witnessing a greater impact.

 

The 10-year and 30-year G-Sec yields as of January 28 were up 47 basis points (bps) and 63 bps from their respective recent lows in April-May 2025. The 10-year G-Sec yield is currently close to a 11-month high. In case of 30-year papers, the yields have surged to a two-year high.

 

A rise in yields tends to hurt bond investors as it is associated with a decline in bond prices.

 

The yields have gone up despite rate cuts by the Reserve Bank of India (RBI). According to experts, unfavourable demand-supply dynamics have been the key issue.

 

“G-Sec yields are under pressure due to a combination of factors. While the supply of papers has continued, the demand has cooled. MFs as well as other domestic institutions have been net sellers in recent months. The investor interest is currently tilted towards short-term bonds and state development loans (SDLs), which are offering better interest rates. The decline in liquidity due to RBI’s aggressive foreign exchange intervention is also a factor," said Dhawal Dalal, president and chief investment officer (CIO) - fixed income at Edelweiss Mutual Fund.

 

According to experts, even as longer-dated bond prices are now comparatively better, investors should prefer short-to-medium horizon schemes at least until there is some easing of the prevailing headwinds.

 

"The risk-reward equation is not too attractive for investors. Most investors would do well to stick to products such as short-term funds, corporate bond funds or banking and public sector undertaking (PSU) debt funds for their core fixed income allocation. Investors could also consider products such as income-plus-arbitrage fund of funds for better tax efficiency," said Nilesh D Naik, head of investment products, Share.Market (PhonePe Wealth).