Bonanza for debt investors? | Value Research Two previous 0.50 per cent cuts in the repo rate and the performance of debt mutual fund schemes in the next one-year period offer a contrasting picture
Fundwire

Bonanza for debt investors?

Two previous 0.50 per cent cuts in the repo rate and the performance of debt mutual fund schemes in the next one-year period offer a contrasting picture

Investors in various debt mutual fund schemes are rejoicing the surprise reduction in interest rates. The Reserve Bank of India (RBI) on Tuesday cut its key policy rate by 50 basis points (100 basis points = 1%). The quantum of reduction was larger than expected, as most money market analysts had expected the banking regulator to cut rates only by 25 basis points. The RBI has cut interest rates three times this year, lowering it by 25 basis points every time.

A falling interest rate scenario is considered great news for debt investors because of the inverse relationship between interest rate (yield) and price of securities. That is, interest rate and price move in opposite directions. When interest rates fall, the price of securities go up. This results in the appreciation of Net Asset Value (NAV) of debt mutual fund schemes.

Now, the big question is will this 0.50 per cent reduction in rates translate into great returns for investors in various debt mutual fund schemes? Since it is difficult to predict what will happen in the market in the coming days, we will travel in the opposite direction and find out what happened to debt investments when the RBI reduced rates by 50 basis points in the past.

A quick glance at the history of repo rate reveals that the last 50 basis point reduction came in April 17, 2012, when the RBI cut the repo rate to 8.00 per cent from 8.50 per cent. The 0.50 per cent reduction before that came in March 5, 2009. At that time the RBI cut the repo rate to 5.00 per cent from 5.50 per cent. Now, let us turn our gaze towards the universe of debt mutual funds and find out how they have reacted to these rate cuts.

In the one-year period between April, 17, 2012 and April 17, 2013, long term debt schemes have offered double-digit returns. Gilt medium & long term category has offered an average return of 11.48 per cent and debt income category has returned around 10.76 per cent during the period. Other debt fund categories such as ultra short-term funds, short-term funds and gilt short-term funds have offered over 9 per cent during the same period.

How Debt Funds Fared?
After 50 bps rate cut on March 5, 2009

CategoryCategory Average Returns*
Debt: Gilt Medium & Long Term0.94%
Debt: Income4.30%
Debt: Gilt Short Term2.05%
Debt: Short Term5.78%
Debt: Ultra Short Term4.45%
Debt: Liquid4.16%
* Returns between 05/03/2009 - 05/03/2010

How Debt Funds Fared?
After 50 bps rate cut on April 17, 2012

CategoryCategory Average Returns*
Debt: Gilt Medium & Long Term11.48%
Debt: Income10.76%
Debt: Gilt Short Term9.07%
Debt: Short Term9.81%
Debt: Ultra Short Term9.10%
Debt: Liquid8.85%
* Returns between 17/04/2012 - 17/04/2013

However, the scene was very different during the one-year period between March 5, 2009 and March 5, 2010. None of the debt funds managed to offer attractive returns during this period, Long term debt income category offered around 4.30 per cent and gilt medium & long term category has returned around 0.94 per cent during this period. Even other debt fund categories were disappointing during this period. This was because the interest rates in the economy have already started firming up during the year. Within a year, the interest rates have started inching up.

Bonanza for debt investors?


Other Categories