The past six months have conclusively proven the worth of floating rate funds for risk-averse investors. The category's consistent performance in volatile times has polished these funds' image as one of the most stable debt products around. In the past six months, floating rate funds have delivered a return of 2.30 per cent as on April 29, 2004 -- 0.18 per cent more than the income funds and 0.11 per cent more than the ultra short-term debt funds.
How do floating rate funds protect returns? Normally, the price of fixed-income instrument changes in accordance to changes in the interest rate - bond price falls, when interest rates rise and vice-versa. But in floating rate instrument, the coupon is re-adjusted periodically in tune with the prevailing market interest rates. Thus, the impact of change in interest rate on price of floating rate bond is minimal as compared to fixed-income instruments. This makes floating rate funds less volatile vis-à-vis income funds (see Stability of Floating Rate Funds).
Thus, floating rate funds could be considered in small proportion to supplement a debt portfolio. Though over the long-term, say over a year, income funds are likely to give you better returns but there is no harm in diversifying your portfolio, thereby mitigating downside risk to some extent.
Franklin Templeton Mutual Fund was the first fund house to launch floating rate funds in India in February 2002. But with increasing volatility in the debt market, the number of such funds has gone up to 18 now. The year 2003 alone saw the launch of 15 such funds. LICMF Floating Rate Fund is the new addition to the category — launched last month (in March 2004). Overall, the category together manage Rs 4,219 crore of assets under management as on February 29, 2004.