Fixed income investors may look at short term instruments nowSince the beginning of this year credit risk funds have received investor love owing to the higher yield to maturity (YTMs) of these funds. The AUM in this category had shot up by about Rs 10,000 crore in 2018 and the average YTM of funds in this category stood at 10.35% as on Sept’18 which is 120 basis points (One basis point is 1/100th of a per cent) higher than the average YTM as on Jan’18. Of course, it was all going great and everyone was gung-ho about the credit market until the IL&FS fiasco happened.

The confusion and worry started spreading in the market post the sudden rating downgrade of infrastructure financing firm IL & FS in the month of September. The company defaulted on its debt payments creating trouble for the entire NBFC sector which is still starved of liquidity. The subsidiaries of the firm have since defaulted on more such obligations. This has created serious turbulence in the fixed income market; the same is being reflected by the 10 yr G-sec movement over past few months.

While the G-sec yields seemed to be calming down and the oil prices have come down dramatically in the last few days, it is still unclear if the worst has passed. The concerns about rising US key interest rates, RBI Policy stance, upcoming elections and the liquidity crunch still loom over. The retail investor at this juncture is confused and unsure of where to invest or whether to sit this one out.

10-year G sec yields

Here is what we think:

Most of the fund managers in the mutual fund industry are factoring in a repo rate hike of 25-50 basis points (One basis point is 1/100th of a percent) over the next one year. As per data published by CME group, the probability of US Fed hiking the interest rate in the policy meeting on 19th December is 75%. The NBFCs and banks are still struggling with inadequate liquidity. Even as the regulator and government vouch to support the liquidity in the system, the problem is not likely to be solved overnight.

In response to these events, there is a flight to safety to short term quality papers/corporate bonds, in turn interest rates at the shorter end of the curve have shot up as can be seen below:

Instrument Yield on 01/01/2018 Yield on 12/11/2018 % Change
3 Month T Bill 6.1 6.89 13%
6 Month T Bill 6.24 7.13 14%
1 Yr T Bill 6.31 7.38 17%
10 Yr G-sec 7.34 7.78 6%
30 Yr G-sec 7.6 8.1 7%
Source: Investing.com, FBIL

The short term yields of government securities are outpacing the long term yields. At this juncture, it is prudent to invest in short term mutual fund schemes for two reasons.

A) The short term yields seem to be rising at a faster pace and locking investments at these levels would benefit the investor.

B) In a rising interest rate scenario, the short term bonds mature faster and the fund manager can invest in newer bonds with higher yields.

The investors may choose to invest in mutual fund schemes with short duration and investing in good quality corporate bonds. The categories like Banking and PSU Debt Fund, Corporate Bond Fund, Money Market Fund & Ultra Short Term Fund typically run the high quality – low duration strategy.

Alternatively, investors may choose to invest in the Fixed Maturity Plans (up to 1yr tenure) that are investing in high quality assets as these products carry close to zero duration risk as all the bonds are held till maturity. In this space, SBI Mutual Fund is offering SBI Debt Fund Series – C – 29 – 366 Days, opening today.

Disclaimer: The article is only for informational purposes and is not an advice. Investors are requested to consult their financial, tax and other advisors before taking any investment decision.

Author
Priyanka Bharati

Priyanka Bharati is a senior personal finance analyst with RupeeIQ. She can be reached on priyanka.bharati@rupeeiq.com