Three debt funds for SIPs

Coronavirus fears continue to haunt markets and economies across the globe. In India, the 21-day national lockdown has left many of us in a tizzy. Importantly, the ongoing turmoil leading to liquidity crunch has brought to focus the importance of building emergency funds.

One of the ways in which an emergency fund can be created is by investing in debt mutual funds through systematic investment plans (SIPs).

Debt funds can also be part of one’s portfolio and is a critical part of the asset allocation strategy. During uncertain market conditions such as the present one, partial allocation to debt funds can help balance the risk, bringing stability to returns.

Many retail investors use the SIP route to invest in equity mutual funds to tide over market volatility and average out the cost of investments over a long period of time. This helps generate higher returns over the long run.

Though the net asset values (NAVs) of debt funds may not be as volatile as those of equity funds, they are still subject to market risk. The NAVs of debt funds are influenced by interest rate cycles and credit risk. As the NAVs of debt funds also fluctuate over a period of time, SIP investors can average their cost of investments (barring pure accrual funds such as overnight and liquid funds).

Investors with low to medium risk profile can apportion a part of their surplus towards debt funds, after parking funds in their banks’ recurring deposits (which are relatively safer). Middle-aged investors and investors nearing retirement can also consider the SIP route to invest in debt funds.

However, since debt funds carry market risk, it is important to choose debt funds with relatively lower credit risk, portfolio diversification, short-to-medium maturities and inherent high liquidity. Based on the above criteria, we have chosen three debt schemes ― ICICI Pru Liquid, Kotak Banking and PSU Debt and IDFC Dynamic Bond Fund ― for investing through SIP. Retail investors can consider these schemes based on their risk profile and investment goal. The ideal investment horizon would be three years and more.

ICICI Pru Liquid fund

ICICI Pru Liquid is one of the best-performing funds in the liquid fund category. Liquid funds invest in debt and money market securities with a residual maturity of up to 91 days. ICICI Pru Liquid focuses mainly on accrual income by investing in high-quality debt papers. Its portfolio average maturity has been maintained between 31-60 days over the last one year. The portfolio is fairly diversified with 123-249 debt securities in it over the last three years.

One can expect liquid funds to deliver similar or slightly higher returns than bank FDs. Normally, liquid funds generate returns of 50-150 bps higher than the RBI’s repo rate, which is currently at 4.4 per cent.

Liquid funds provide one of the best avenues to park your emergency funds, offering you instant redemption facility of up to ₹50,000 or 90 per cent of the invested amount (credited within 30 minutes to your bank account).

Kotak Banking and PSU Debt fund

Kotak Banking and PSU Debt is the top quartile fund across periods in the category. As the name suggests, banking and PSU debt funds invest at least 80 per cent in debt instruments of banks, public sector undertakings, public financial institutions and municipal bonds. The balance is invested in government securities and corporate bonds.

Kotak Banking and PSU Debt is one of the few funds in the category allocating only to the debt instruments issued by the banks (private & public), public sector undertakings (PSUs) and government bonds.

Around 25 per cent of the assets are held in debt papers rated AA and equivalents issued by PSUs and banks, which spices up returns. The fund follows a blend of accrual and duration strategies. Its portfolio average maturity has been maintained between 2-4.6 years over the last three years.

The scheme has been rated four-star by BusinessLine Portfolio Star Track MF Rating . Performance, as measured by the three-year rolling returns calculated from the last five years’ NAV history, shows that the scheme delivered a compounded annualised return of 8.5 per cent.

Investors with low to medium risk profile can consider setting up an SIP in the fund.

IDFC Dynamic bond fund

Dynamic bond funds have the flexibility to juggle between short- and long-term debt instruments. Active management of duration by fund managers helps these funds contain the downside better in a volatile market, while making the best of bond rallies in upbeat market phases.

IDFC Dynamic Bond is the only fund among the 29 funds in the category that has allocated its assets only to the highest-rated debt instruments (AAA rated and G-Secs) over the last five years. While this mitigates the credit risk in the portfolio, it also lower returns vis-à-vis other funds that have higher exposure to low-rated papers. However, efficient duration strategy deployed by the fund manager has helped the fund deliver category-beating returns across periods. Its portfolio average maturity has been maintained between 3.3-12.7 years over the last three years.

The scheme has been rated four-star by BusinessLine Portfolio Star Track MF Rating . Performance — as measured by three-year rolling returns calculated from the last five years’ NAV history — shows that the scheme delivered a compounded annualised return of 8.7 per cent. This fund is suitable for investors with medium to high risk profile.

Hedge

During uncertain market conditions, partial allocation to debt funds can help balance the risk and bring stability in returns

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