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RETURNS from our investments are only as good as the homework we do before we invest. Past returns, while giving us some idea of performance, are no measure of future returns that can be expected from an investment option. Indicators of future performance can be drawn from two sources:

The investment strategy of the fund: This can be found in the scheme's offer document and in the memorandum containing key information as well as the product brochures that the fund brings out. This will give an overall idea of what kind of instruments the scheme can invest in, what are the limitations, the risk control measures, and so on, at an overarching principal level; and

The monthly fact sheet: This indicates the fund's current position as well as its immediate future performance.

This article aims to demystify the terms used in the fact sheet as well as give some pointers on what you should be looking at when you invest in a debt fund.

Fund portfolio: This is a list of instruments that the fund has invested in as on a given day. While this will vary on a daily basis depending on the buying or selling calls taken by the fund manager, the portfolio can be indicative of the strategy employed by the fund.

At the outset, you would be able to determine what percentage of the fund's portfolio is invested in the various debt classes (government securities, corporate debt, PSU bonds, treasury bills, fixed deposits and cash).

A larger exposure to G-Secs would imply a potential for greater returns in a falling interest rate scenario but also greater fluctuations (as G-Secs are the most frequently traded and also have longer maturities). In a stable interest rate scenario, G-Secs could under-perform, as their interest yield is lower.

Corporate and PSU bonds have the potential to earn higher interest income.

Alongside the name of the security can be found the credit rating. A "AAA" rating means `Highest degree of safety' while a AA rating means `High degree of safety'. Typically, these would be less liquid than the G-Secs but also less volatile as they are less frequently traded and may have lower maturities. A huge exposure to this category could imply lower NAV volatility. On the flip side, when interest rates are falling, the price of these bonds would rise to a lesser extent than G-Secs.

Quick fact: Look for higher allocation to G-Secs during times when interest rates are expected to fall, and higher allocation to corporate bonds when rates are stable.

A certain percentage of the portfolio is also held in call money, cash and net current assets. This is done to ensure availability of funds to meet the day-to-day redemptions of investors without having to sell securities which might affect the portfolio's performance. The fact sheet also contains sector allocations. This is given alongside for Sundaram Bond Saver as on February 28, 2004. Typically, the fact sheet would also contain the outlook for the debt market in the coming month, the expected performance of the various debt instrument classes as well as the fund manager's strategy for the coming months. If the sector allocation chart is read alongside the fund manager's commentary, it would give some indication of what kind of performance can be expected from the fund in the near future.

Average maturity of the portfolio: Maturity is the length of time until the principal amount of the bond would have to be repaid by the borrowers. This figure, represented in years, gives the average maturity of all the instruments held in the portfolio.

Consider the following features of Sundaram Bond Saver:

Average maturity of portfolio — 4.58 years.

Modified duration of portfolio — 3.36 years.

Portfolio yield to maturity — 5.57 per cent

Duration of portfolio: The duration (not to be confused with maturity) is the measure of the price sensitivity of the portfolio to a change in interest rates. The longer the duration, the more sensitive it would be for a given change in interest rates. For example, if interest rates were to go down (or up) by 1% on February 28, 2004, the NAV of Sundaram Bond Saver on that day would go up (or down) by 3.36 per cent.

Yield: The yield is a measure of the interest income generated by the bonds in the portfolio. Funds that invest in bonds that have a higher coupon rate would have a higher portfolio yield. In a stable interest rate scenario, this is to some extent a true measure of the returns the fund can generate. However, in a falling interest rate scenario, this is not a true measure of the returns, as it does not account for trading gains that can accrue from the buying and selling of bonds.

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