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Thursday 1 August 2013

Invest in Fixed Income Funds now to profit

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The 10 year benchmark yield rose by over 50 basis points and price dropped by 3.5 percent in a single day. NAVs of higher-duration debt funds fell by equivalent amount. Some long term gilt funds crashed 4%.

The fixed income market was in for a rude shock when government bond yields on Tuesday witnessed the sharpest 1-day spike in 4-and-half years. Bonds have been rallying till the end of May 2013, until depreciating rupee halted the rally. As the rupee breached the 61 /USD mark on increased dollar strength, bond prices headed south.The Indian currency has tumbled 9 percent in the last one quarter against the US dollar



All hell broke loose after the Reserve Bank of India (RBI) intervened on July 15 to protect the rupee by hiking MSF (Marginal Standing Facility) and bank rates, putting a ceiling on total funds available under its repo window at 1% of banks' deposits and announcing an OMO for July 18.

 

This move triggered a massive sell-off in the bond markets, raising yields to its highest level since January 2009. The 10-year benchmark yield rose by over 50 basis points while its price dropped by 3.5 percent in a single day. NAVs of higher-duration debt funds fell by equivalent amount. Some long term gilt funds crashed a whopping 4%.

 

What to do next

 

Speaking to moneycontrol.com, Amandeep Chopra, Group President and Head of Fixed Income, UTI said, investors who are already invested in fixed income funds need not panic because this measure is short-term in nature. They should remain invested. For new investors this knee jerk reaction in bonds presents a good investment opportunity. They would stand to gain once these measures are reversed.



While RBI's move may have led to a short term disruption, it also creates a large-medium term opportunity for bond funds, says a research note by IDFC MF. Measures undertaken by the central bank are bound to create a substantial drag on growth in an environment where growth is already weak. Also, it should substantially improve valuations on the curve thereby making the bond play that much more attractive once these steps are reversed, it added.

 

After Tuesday's knee jerk reaction long bond yields have become quite attractive for investments with a minimum one-year investment horizon, says a note by Tata Mutual Funds. "As the market come to terms with the new supply, we believe the long bond yields will ease gradually as long term investors like Insurance Companies, Provident Fund etc may be expected to take this opportunity. We therefore strongly recommend investment in dynamic bond funds at current levels with a 1Y investment horizon," it added.

 

New investors can park funds in shorter maturity funds as after current mark to market impact, the portfolio yields are expected to become attractive. Investors may also lock into current attractive yields through one to three year fixed maturity plans (FMPs), it added.

 

Given the current environment, HSBC Global Asset Management recommends investors to remain invested in short term products and flexible bond funds which run a relatively lower duration without impacting the flexibility to build duration over the medium term.

 

"Markets are ignoring bond positive data like negative IIP, lower core inflation and improvement in trade deficit because of depreciating rupee. Over a period, post the emergence of stability in the currency, we expect markets to return to fundamentals. Both government and RBI may have to focus attention on building back GDP growth. Recent volatility in the market may pave way for larger rate moves in medium term after removal of these measures," it explained.

 

According to Kotak Mutual fund, given the systemic nature of RBI's policy impact on the money market, the performance in the liquid and equivalent schemes would suffer for a day or two. But once the system stabilizes to the new reality, the high carry would provide a lucrative investment opportunity for the investors across the curve and investment duration, the note added.

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