Why debt funds still make sense

Whenever Indian bond markets are caught off-guard by unexpected credit events, debt mutual funds usually turn the favourite punching bags of the media and the analyst community. This time around too, as defaults and downgrades have churned up the debt market in the past year, there's been strident criticism of mutual funds. But many of the issues that mutual funds are hauled over the coals for - their reliance on credit ratings, high exposure to NBFCs, their illiquid exposures to corporate bonds and the difficulty of recovering money from promoters - stem from the imperfections of the Indian debt market itself, which has a long way to go before it mimics the debt markets in developed markets. Indian debt fund managers, as a class, have in fact done a reasonably good job of managing credit risks compared to other lenders such as banks. While domestic banks are today grappling with bad loans amounting to 12 per cent of their cumulative loan book, credit events in the mutual fund industry have affected just 1-2 per cent of the assets managed by debt funds. Mutual funds are also far more tightly regulated by the ever-vigilant SEBI in terms of disclosures and mark-to-market valuation norms. Monthly portfolio disclosures offered by mutual funds put a lot of data on the industry's wrong calls in the public domain. The open-end structure of most debt funds and high institutional participation also make for high accountability compared to other bond-market participants who invest retail money. You hear a lot about fund exposures to IL&FS, but did you know th