L&T Gilt Fund - BUY

Interest rates have been on the rise since July last year. Gilt funds, which invest only in Government securities, have taken a knock after a dream run in 2012-13.

But after the recent policy rate hike by the Reserve Bank of India in January, the yield on 10-year Government securities is close to the previous highs at 8.8 per cent. While interest rates are expected to remain up for a while, a sharp spike from hereon is less likely.

This offers a good entry point for investors who can hold quality gilt funds such as L&T Gilt for two-three years.

L&T Gilt fund has consistently outperformed its benchmark (I-Sec Composite Index) over one-, three- and five-year time horizons. In spite of high volatility in interest rates in the last one year, the fund has managed to deliver 7.8 per cent return, trumping its benchmark, which delivered just 3.3 per cent return.

The fund’s consistent performance underscores its strategy of actively managing the duration of the fund, by taking a view on the movement in interest rates. At this juncture the fund has reduced its duration to 4.6 years, to cap losses in case of a sudden movement in interest rates. This move also gives the fund the flexibility to cash in on opportunities.

The fund has outperformed its benchmark 67 per cent of the time in the last three years.

Between April 2012 and May 2013, as the repo rate fell 125 basis points, the fund earned a healthy 18.2 per cent return, outdoing its benchmark.

The fund also capped losses well during rising rate cycles. Between March 2010 and October 2011, when policy rates shot up 375 basis points, the fund managed to gain 7.1 per cent.

Even during the recent increase in rates from May 2013, the fund has been able to deliver a 7.8 per cent return in the last one year.

Gilt funds mainly invest in long-term Government securities and hence there is no credit risk in such funds. But they can make hefty gains or book huge losses depending on the movement in interest rates.

Generally, bonds with longer durations are more sensitive to interest rate risk than shorter-duration bonds. Hence, funds manage the interest rate risk by altering the duration of the fund.

L&T Gilt fund has always had an active bias to managing the duration. This has helped the fund in outperforming the benchmark in favourable as well as unfavourable times.

In the current year, the fund had brought down its duration to 3.5 years in the month of July, when rates started to peak.

Also, this gives the fund enough leg room to cash in on opportunities if the yields go up in the short term. The fund currently holds about 20 per cent as cash in its portfolio.

COMMENT NOW