Select debt schemes extend winning run in 2025 on rate-cut tailwinds

Select debt mutual fund categories such as medium duration and floater funds have delivered over 8 per cent returns in the past year, supported by rate cuts and falling yields

The strong performance run of debt mutual fund schemes in 2024 continued into this year, albeit for select categories. Majority of schemes in categories like medium duration, floater, short-duration and corporate bond have delivered over 8 per cent return in the last one year, driven by the rate cuts.

 

The average one-year return of medium duration funds is currently at the highest for a category at 8.7 per cent. These schemes, which invest in short-to-medium term papers to maintain a Macaulay duration of 4-7 years, benefited from the decline in short-term yields over the last year.

 

"Rate cuts benefited medium term funds as, by design, these schemes were positioned at the shorter end of the curve. The decline in yields translated into capital gains. Accruals and spread compression also added to the returns," said Abhishek Bisen, head of fixed income, Kotak Mutual Fund.

 

The yield movement was favourable for most part of the year, with the 5-year and 10-year G-sec yields falling by about 38 basis points and 17 basis points, respectively, in 2025 so far.

 

Aditya Birla Sun Life AMC’s medium duration funds were positioned to benefit from the expected rate cuts in 2025 and it played out as expected, said Sunaina da Cunha, co-head of fixed income at the fund house.

 

"The scheme is actively managed on two levers of duration and credit. The duration lever played out at the beginning of the year as expectation of rate cuts were factored. Over the past few months, with increased rate volatility, accrual has taken over with spreads of the higher rated AAA/AA+/AA rated bonds having compressed," she said.

 

These schemes, however, may find it difficult to continue the performance run, given the lower chances of further rate cuts. “The medium term trade has largely played out. Unless we get similar rate cuts next year, it will be difficult for medium term funds to match this year’s performance. However, if long bond yields do not come off and instead move higher, medium term funds could still remain attractive because of lower duration and carry,” Bisen said.

 

While short-to-medium horizon schemes have delivered in 2025, longer duration schemes took a hit due to the rise in yields. The 30-year G-sec yield is up 27 basis points since the start of the year. The capital gain losses resulting out of the yield spike led to a subdued performance of long duration schemes and gilt funds.