‘Short-term bond funds, FMPs look good for one year’

The RBI’s moves on interest rates and Ben Bernanke’s taper decision have roiled debt markets. Where must investors put their faith? Business Line had a quick conversation with Sudhir Agarwal, Fund Manager at UTI Mutual Fund to find out:

With the RBI unlikely to cut interest rates, what stance will debt fund managers will take on their portfolios now? Will they lengthen maturity once again? What are the average maturities on UTI funds and how will they change post policy?

After the repo rate hike, we will be cautious. There is still some confusion in the market on whether this is the start of a series of rate hikes or just a one-off step. Till the time we get more clarity, we would like to keep average maturities at low levels.

How do you expect the reduction in the rates on the marginal standing facility to impact returns from short-term bond funds?

Reduction in MSF rates is expected to result in steepening of the yield curve which will help in reduction in short-term yields. This will be most beneficial for funds like short term bond funds. They may outperform other longer maturity funds on a risk-adjusted basis. In line with this, we are advising our investors to consider investing in short-term income funds.

How will the RBI moves to hike repo rates and reduce MSF rates impact FII flows into debt markets. Will they resume?

We may see some investment demand for three-to-five year debt from a couple of foreign banks against the FCNR money flow. However, FII flows in the debt may be dependant on their view on the currency.

If they are expecting the rupee to stabilise around the current levels or appreciate from here, they may consider investing into the local debt markets again.

Will the reduction ease liquidity pressure on stressed companies and improve credit quality?

Reduction in the MSF rate has resulted in 50 to 75 basis point fall in interest rates on less than one-year borrowings. Before the MSF cut, the money markets had come to a standstill due to the very high short term rates. The recent action on MSF will bring normalcy to the money markets and in turn we may see increased activity by banks and companies in this market.

Is this the time to enter long bond funds and gilt funds once again?

At this point, we are advising our investors to wait before entering or exiting the long bond funds and gilt funds. Once we get more clarity on the RBI stance in the next policy on October 29, we will be able to convincingly spell out the strategy.

Among short-term funds, FMPs and gilt funds, which do you think offer the best return potential for investors over the next one year?

Short-term income funds and FMPs are looking good at this point from a one-year perspective. FMPs are suitable for those investors who are looking to lock in the higher interest rates at this point without intermediate volatility. Short-term income funds, on the other hand, are ideal for an investor who wants to get the benefit of high accrual with some amount of capital appreciation once the MSF rate is cut further.

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