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You often recommend short-duration debt funds for an investment horizon of around three years. What are the risks from an interest rate and credit point of view? How do they manage average maturity?
- Pratap
From an interest rate perspective, these funds by regulatory mandate have to keep their duration in a tight range of one to three years. They can take exposure to bonds that are maturing in more than three years, but at a portfolio level, at any given point of time, their duration cannot exceed three years. So that means that any impact of change in interest rates is fairly range-bound if the interest rates go up. There certainly would be some impact on these funds, but it will not be of the magnitude that funds with a longer duration might face.
Coming to the credit side, these funds have a fair degree of flexibility because the regulatory mandate does not bind them to invest in a certain quality of bonds. Different funds can have reasonably varied credit profiles, ranging from exposures to G-secs to top-quality corporate bonds to lower-rated corporate bonds. If you look at their portfolios, currently, most of them appear to be of very high quality. However, till some time back, say about a year, that was not the case when different funds seemed fairly distinct in their credit quality profile. On the credit quality front, various funds carried different degrees of risk.
Of course, funds that are more aggressive on credit quality and don't mind going down the credit rating curve also tend to generate slightly higher returns, but it comes with an added degree of risk. Funds that by and large stick to top-quality bonds may deliver relatively modest returns, but they come with a lower risk. So that's something where the investors would have to exercise selectivity and take a call where they would want to invest.
This article was originally published on July 05, 2021.
Disclaimer: This content is for information only and should not be considered investment advice or a recommendation.
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