Personal Finance

Nuts and bolts of debt ETFs

Dhuraivel Gunasekaran | Updated on January 13, 2019 Published on January 13, 2019

Six debt ETFs, including liquid ETFs and G-Secs ETFs, are already available in the market

Following the success of equity exchange-traded funds (ETFs) such as CPSE ETF and Bharat-22 ETF, the Centre is now gearing up to launch a debt CPSE ETF. Edelweiss Mutual Fund recently won a mandate to manage an ETF that will hold bonds of public sector undertakings.

The passively managed debt CPSE ETF will suit conservative investors and serve as an alternative to bank fixed deposits. While the contours of the debt CPSE ETF are awaited, there are a few debt ETFs already available in the market, which can help retail investors understand the underlying concept behind these investments.

Currently, six ETFs, including liquid and G-Secs ETFs, are actively traded on the NSE and the BSE.

Liquid ETFs

ETFs are passively managed mutual funds that aim to generate a similar return as that of the benchmark they follow. ETFs are traded on the BSE and NSE just like equity shares.

Currently, three liquid ETFs are available in India — Reliance ETF Liquid BeES, DSPBR Liquid ETF and ICICI Pru Liquid ETF. Reliance ETF Liquid BeES has been one of the top actively traded ETFs, and has had a strong track record since July 2003, while other two have a history of less than a year.

Liquid ETFs track the Collateralised Borrowing and Lending Obligation (CBLO) overnight rate and Tri-party repo rate (where a third entity called a tri-party agent acts as an intermediary between the two parties to the repo) as the benchmarks. They offer only one plan — daily dividend — which is compulsorily reinvested into the scheme after deducting the dividend distribution tax (29.12 per cent).

Liquid ETFs are mainly suited for capital-market investors including traders who wish to park idle cash in a way that ensures easy liquidity and better returns than a regular account. When an investor sells equity shares in the exchange, she can simultaneously instruct the broker to purchase the units of a liquid ETF for an equal amount. This helps the investor earn above-average returns till the proceeds come into her trading account. Currently, the settlement happens in the cash market in (T+) two days.

Investors waiting forbuying opportunities in the market can also park their idle money in liquid ETFs. Units of liquid ETFs can also be used as a cash-equivalent margin for the derivatives segment with a 10 per cent haircut.

Liquidity has not been a constraint in Reliance ETF Liquid BeES, with a daily average volume of ₹92 crore on the NSE in the last two years.

The index used by Reliance liquid ETFs is the CBLO overnight rate. Currently, the weighted average rate of CBLO is 6.4 per cent, and it has hovered at 4.3-6.4 per cent in the past one year. Hence, the returns from these ETFs are closer to these rates.

One cannot compare the performance of liquid ETFs with that of liquid mutual funds, overnight funds or bank FDs as they operate for different purposes, and hence have separate mandates.

Gilt ETFs

Three Gilt ETFs (or G-Sec ETFs) — Reliance ETF Long Term Gilt, SBI ETF 10 Year Gilt and LIC MF G-Sec Long Term ETF — are available in the market. SBI ETF 10 Year Gilt follows Nifty 10 yr Benchmark G-Sec Index, while Reliance and LIC gilt ETFs follow Nifty 8-13 yr G-Sec Index.

Nifty 10 yr Benchmark G-Sec Index is constructed using the price of the 10-year bond issued by the Centre (currently 7.17 per cent GS 2028). Nifty 8-13 yr G-Sec Index is comprised of five most liquid G-Secs with a maturity of 8-13 years.

Gilt ETFs are different from normal gilt mutual funds. Gilt ETFs are passively managed funds that simply track the portfolio and performance of the benchmark they follow. On the other hand, gilt funds are actively managed duration funds wherein the fund managers churn the portfolio based on macroeconomic outlook to generate higher returns than benchmarks.

Gilt ETFs provide retail investors an easy access to participate in the government securities markets. Though there are other routes available for retail investors, including through brokers, primary dealers and the NSE platform, an exit option is limited in them. However, the traded volume in the exchanges in these gilt ETFs are still very low.

Though there is no credit risk associated with gilt ETFs, they carry price risk depending upon the interest rates movement. When interest rates rise, prices of G-Secs fall, and vice versa. This, in turn, impacts the NAV/price of the gilt ETFs.

The performance of gilt ETFs depends on the macroeconomic conditions in the domestic and global markets. Hence, gilt ETFs are suitable for well-informed investors who understand the dynamics of the debt market very well.

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Published on January 13, 2019
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