Debt patterns: lower liquidity puts emphasis on very short-term debt funds

Mumbai: Investors could bet on debt systems that invest in short-term bonds, as the liquidity crunch is expected to boost yields on these products. Fund managers are recommending very short-term debt programs, which could yield upwards of 6.5% or more if the Reserve Bank of India raises interest rates further.

The liquidity of the banking system fell into deficit for the first time in three years. Dwindling liquidity and picking up demand for credit should lead to firmer short-term interest rates.

“The days of easy liquidity are over. Short-term rates are rising and could stay high for some time,” said Sandeep Bagla, CEO of Trust Mutual Fund.

Retail credit demand has been robust and corporate loan demand has started to increase, which has reduced liquidity in the system and pushed up short-term rates, said Dwijendra Srivastava, CIO (Debt), Sundaram Mutual Fund.

Fund managers said that in this situation, very short-term funds are the best bet because there is little chance of suffering market value losses. This fund category invests in debt and money market instruments with a portfolio duration of between three and six months. If rates rise, the likelihood of a loss in market value is low compared to long-term funds.

Very short-term funds could earn more than 200 basis points more than comparable deposits from banks, which have been slow to raise rates. For example, six-month short-term bank deposits, for example, generate pre-tax returns of 4.5-4.65%.

When rates rise, long-term bond prices are most affected and products that invest in such paper experience a loss in market value. At this point, while there is still uncertainty about when interest rates will peak, investors are better off using very short-term funds.

Fund managers believe the global rate hike exercise is not over as the Fed seeks to contain inflation.

“With this level of hawkishness from the Fed, it would be extremely difficult for the RBI to soften its tone on domestic monetary policy anytime soon,” said Pankaj Pathak, fund manager (fixed income), Quantum Mutual Fund. .

Fund managers believe that even in India, the RBI should raise rates in line with its global peers. “To attract foreign capital and be competitive, you need to raise rates, otherwise your current account deficit will be high and the rupee will slide,” Bagla said.

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