The debt mutual fund investors are a bit confused about the market. In the new year, most fixed income managers were upbeat about the market. However, the mood is cautious now. The Fed is talking about bigger hikes to tame inflation. ETMutualFunds reached out to Abhishek Bisen, Head – Fixed Income, Kotak Mutual Fund, to make sense of the debt space. “At the current juncture, given the fact that we are nearing the end of rate hike cycle and flat yield curve, we suggest investors can consider short to medium duration funds, dynamic funds and actively-managed gilt funds,” says Bisen.Edited interview.
1) Debt mutual funds are supposed to have a great year in 2023. However, it doesn’t look like a smooth ride. What is your view?
We believe we are nearing the end of the hiking cycle both in India as well as the US. After raising rates by 450 bps in the US, the Fed is likely to raise rates by additional 50-75 bps and in India after raising rates by 250 bps, the RBI is likely to raise rates by additional 25 bps. The change in market expectation with respect to the incremental rate hike coupled with the timing with respect to the Fed Pivot has resulted in volatility in markets since the beginning of 2023.
However, RBI has hiked rates by 250 bps over the course of the last 10 months. Portfolio yields of debt schemes have risen by minimum 200 bps due to rate hike by RBI. We see merit in investors with appropriate time horizons allocating funds in fixed income schemes, where we expect returns largely from accrual over next 12 months and marginal capital gains over next 12-18 month period.
2) Global central banks are cautioning investors about more interest rate hikes for a prolonged period. What is your reading of the situation?
At the start of 2023, it was expected that the Fed Fund Rate would peak at 4.75-5.00 and Fed would Pivot in Q3/Q4 CY 2023. However, due to strong growth data in the US and slower disinflation, the market is now pricing in a terminal Fed Fund Rate in the band of 5.50-5.75 and Fed to Pivot in Q2/Q3 CY 2024.
We expect the Fed to hike rates to 5.25-5.50 over the next 3 policies and to stay on hold for the rest of CY 2023.
3) The RBI is supposed to pause for sometime. Does that view still hold, considering the global scenario?
Post RBI Feb MPC, based on RBI FY 24 inflation projections, we were of the view that terminal repo rate in India is 6.5%. However, subsequent to that terminal fed fund rate expectations in the US have moved up with delayed pivot. Given the narrowing interest rate differential between India and the US, we expect the RBI to do a final 25 bps hike in April 2023 and remain on hold for the remainder of CY 2023.
4) The government borrowing plan is in line with the market expectations, inflation is also under control, rate hikes have been effective – do you agree India may not face a rough ride?
The yield curve from 1 year to 10 years is in the band of 7.25-7.45. Due to tight liquidity and start of FY 24 borrowing from April 23, we expect upward pressure on rates and the curve to shift higher from current levels in Q1 FY 24. Post that based on expectation of Fed Pivot and expectation of easing by RBI, we can see a parallel downshift in yield curve by Q3/Q4 FY 24.
5) Debt fund managers like you have been asking investors to stick to short term debt funds. Do you still stick to the recommendation?
At the current juncture, given the fact that we are nearing the end of rate hike cycle and flat yield curve, we suggest investors can consider short to medium duration funds, dynamic funds and actively-managed gilt funds.
6) Which short term categories do you recommend?
Investors with an 18 month plus investment horizon can consider investment in short duration funds, banking & PSU funds, medium term funds, dynamic funds and actively-managed gilt funds.
7) Is it time to bet on long term debt funds, including gilt funds? Considering we are at the fag end of rate hikes, can aggressive investors bet on these funds?
We expect the yield curve to shift upwards in Q1 FY 24 and then a parallel down shift in yield curve by Q3/Q4 FY 24. Investors with an 18 month plus investment horizon can consider investment in actively-managed gilt funds.
8) Many mutual fund investors don’t actively invest in debt funds. What’s your advice to them?
Mutual funds investors should follow asset allocation based on the advice of their financial advisors/ financial planners. Within the debt allocation, debt mutual funds are a tax efficient option for investors. Investors can also park their surplus funds in money market / low duration strategies and can do Systematic Transfers/ lumpsum investment in equity schemes.