It's no secret that the job of a debt fund manager is much tougher today than it was till a couple of years ago. Till that time, interest rates were consistently heading downwards, and keeping the maturity profile towards the higher side was undisputedly beneficial. Since the maturity profile is the average tenure of all the bonds in a debt fund's portfolio, a longer maturity means that the fund will continue to earn higher interest on its existing portfolio for a longer time. But since 2003, this has changed.
With the interest rate scenario becoming a lot more turbulent and uncertain, the life of debt fund managers has become quite difficult. The fund manager has to form an outlook based on how interest rates will move over the long-term as well as the short-term. Along with that, another dilemma facing the fund manager is the trade-off between returns and credit quality. One would normally associate a higher coupon with a lower-rated security, resulting in lower credit quality. While sub-standard papers might not attract fund managers in good times, but at a time when returns are hard to come by, these papers look a lot more lucrative.
Managing a debt portfolio efficiently to generate good returns consistently has proved to be a tough ask, as our analysis proves the point. We looked for those funds in the medium term debt category which have delivered above average returns in each of the last four calendar years. Only those funds have been considered which have been around during this period. As it turns out, just four funds were able to meet the criteria.
Birla Sun Life Income Fund: Gilts have historically been at the core of this fund's portfolio, with AAA-rated corporate bonds also accounting for a lion's share. However, in the last few months, the fund has increased its exposure to AA and below-rated papers, in pursuit of returns. Though this fund's returns have not been flamboyant against the category, it has done well to stay ahead of the category over the years. Containing the relatively higher expense ratio would help though.
JM Income Fund: The fund delivered top quartile returns during 2000 and 2001, by keeping a very high maturity profile. Subsequently, the fund manager reduced the average maturity to less than three years by the middle of 2004, helping it to beat an average peer. The fund manager has displayed agility in moving the assets to safer instruments in the wake of uncertainty. For example, the fund manager had parked as much as 63 per cent of assets in cash and bank deposits during February and March 2005, ahead of the credit policy review, and later moved this amount to gilts.
Kotak Bond Regular: The fund prefers to maintain a relatively higher maturity profile as compared to the category. However, it has varied substantially in the last few months. In July 2005, the average maturity stood at 6.66 years way above the category average's 3.41 years, while in the very next month, it was down to just 1.92 years. After a stint with AA+ and AA-rated papers, the fund is back to its old ways of investing in top-rated papers and government securities, which account for nearly three-fourth of the assets.
Principal Income: This fund is very quality conscious. Unlike other funds, Principal Income has not turned to lower-rated papers to generate returns during tough times. While the AAA-rated papers and gilts dominate the portfolio here as well, the fund has shown a lot of interest in treasury bills since the second quarter of 2004.
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