Monday, December 14, 2009

Gem Gaze
December 2009

Debt begins its journey on the tight rope…

The debt funds were back in vogue about a couple of years ago after lying on the sidelines for the preceeding three years. The interest rate cycle that peaked out is now headed downwards with the trough not visible in the immediate future. In this environment of hardening yields, gilts and income funds that have put up a decent performance are now walking the tight rope but the situation is still far from bleak.

There has been a sea change in the list of debt funds enjoying the GEM status. Birla Income Fund, UTI Bond Fund, and LIC Bond Fund have failed to live up to our expectations and have been shown the door. They have been replaced by the effervescent Fortis Flexi Debt Fund, Canara Robeco Income Fund, and Birla Sunlife Dynamic Bond Fund. A complete overhaul in the list of debt dynamites…

Kotak Bond Regular Fund Gem
Expensive quality

With an aggressive tilt, this ten-year-old Rs. 229 crore fund has outperformed its category (Debt-medium) every year since its launch. It has consistently bettered its benchmark, the CRISIL Composite Bond Index during the past five years. While investors have been well-recompensed from this aggression, the fund manager seldom compromises on quality. In December 2008, when yields started falling, the fund manager audaciously increased the average maturity of the portfolio to 11.93 years. He moved up the exposure to G-Secs from just 3.66 per cent in September 2008 to 53.42 per cent in December 2008. The result was yet another constructive step as the fund did benefit from this move turning in an astounding 15.49 per cent in December 2008 against the category's 7.59 per cent. But as yields started moving up suddenly from January 2009, the fund experienced a fall of 5.54 per cent against the category's 3.30 per cent in the quarter ending March 2009. The fund has invested a majority of its portfolio in Government securities and debentures while investing small portions in commercial papers intermittently. It has amassed AAA and sovereign instruments which prop up the quality and hence the safety of the portfolio. The fund is a tad high on the expense side (expense ratio of 2%), compared to its category. The fund will reward those investors who hang on for the long run as it has delivered an annualised return of 11.15 per cent against the category's 7.84 per cent over three years. The fund’s performance is truly noteworthy. In a nutshell, Kotak Bond Regular is a reliable fund which delivers high returns, with average volatility. A reduction in expenses will make it a truly quality offering.

ICICI Prudential Gilt Investment Gem
Consistent conservative

This Rs 482 crore decade old fund has turned in a sterling performance. The fund has generated an annualised return of 12.2 per cent since its inception and this period spans varying trends in the interest rate cycle. A conservative investor might find the liquidity of the fund and the sovereign guarantee that backs its securities attractive. The fund has consistently outperformed the benchmark I Sec I-Bex by a comfortable margin over different cycles in interest rates. Even as equity markets were struggling to generate a positive return, ICICI Prudential Gilt has piggybacked on rising gilt prices to generate a return of 25.3 per cent over a one-year period. A major part of this return has been achieved during the past few months, amid the sharp slide in yields. Though returns of this order may not be repeated, returns are likely to remain healthy (in the 10-11 per cent range) over the next one year, given the softening bias to interest rates. Though they are debt oriented funds and are free from credit risk, gilt funds do expose investors to price risk – the risk that yields may spike, hurting NAVs. According to the fund manager, the fund intends to hold 70 per cent of the assets in long term instruments and 25-30 per cent will be churned to generate higher yields. With the interest rate heading south, ICICI Prudential Gilt Investment has a potential to generate better returns.

Fortis Flexi Debt In
True to its name!

One scheme that stands out for sticking to its mandate of creating alpha by constantly changing its duration based on interest rate calls is the five-year-old, Rs. 405crore Fortis Flexi Debt. The fund manager has been able to generate above par performance even in times of rising interest rates by reducing its average maturities and vice versa. The fund manager has taken short trading calls with stop loss triggers in place. He has been nimble footed thanks mainly to his investments in liquid papers like either Government securities, AAA rated corporate papers, or money market instruments which gives him the flexibility to reduce/increase duration by having a very liquid portfolio in his scheme. Fortis Flexi Debt Fund has about half of its money invested in government bonds, while the rest is spread over instruments issued by quasi-government institutions. Nimble footedness of the fund manager can be gauged from the average maturity and Government securities/corporate bonds/money market holdings based on his view of the interest rate scenario. When the view on interest rate is neutral, the fund manager prefers to hold short duration portfolio, as the flexibility to realign is higher. Hence, over various time horizons of both rising or falling interest scenarios, this scheme has outperformed its peers and generated huge positive higher single digit/lower double digit (even when most of its peer schemes were negative) & performed as well as the others when debt markets were on a roll. In addition, it has beaten its bench mark, the CRISIL Composite Bond Fund Index.

Can Robeco Income In
Cash(ing) in on the interest rate cycle

The word 'consistency' seems to sink into oblivion on looking at the annual performance of Canara Robeco Income Fund over the past five years. Its history is interspersed with periods of impressive results in 2004 and 2005, and dismal performances in 2003, 2006 and 2007. But ever since February 2008, the fund has been ahead of its peers. The new fund manager is doing a great job, with smart bets towards the interest rate outlook. Canara Robeco Income Fund, with an AUM of Rs. 234 cr does not take applications above Rs 1 crore so as to ensure that it does not have any volatile inflows or outflows. Having realised quite early into the interest rate cycle in 2008 that rates were headed lower, it loaded on to higher duration papers from August to December-end, 2008. With a strong belief that markets have priced all possible positive news and there is a chance of government overshooting on its borrowing programme, it added a lot of cash to the portfolio. The allocation of 50 per cent in cash/call money had actually helped the fund with handsome monthly returns of 4.44 per cent (category average: 0.76%). Canara Robeco Income Fund invests a major portion of its assets in AAA and sovereign instruments. Nearly 70% of the assets enjoy a maturity profile of 12 months and below, suggesting a relatively lower sensitivity to interest rate fluctuations. The expense ratio is 2.07%.

Birla Sunlife Dynamic Bond Fund In
Dynamism at play…

Birla Sun Life Dynamic Bond Fund, launched in 2004 and sporting a high AUM of Rs. 5493 cr, is amongst the top performing debt funds of Birla Sun Life Mutual Fund and has been well recognized for its performance. It has been awarded seven star rating for its performance by ICRA at the ICRA Mutual Fund Awards 2009. Birla Sun Life Dynamic Bond Fund presents an opportunity that can make flexible asset allocation across various maturity profiles and debt asset classes, thereby, taking investments high up the ladder, ensuring optimum returns. Its expense ratio is only 1.48%. For investors who cannot actively manage their debt portfolios, Birla Sun Life Dynamic Bond Fund is a good option. The fund, positioned neither as a long-term bond fund nor as a short-term one, promises to actively manage the tenure and composition of securities in its portfolio to suit changing debt market conditions. The fund has been deftly managed, delivering a 12.3 per cent return over a year, and figuring within the top quartile of debt funds over three- and five-year time-frames. The fund has comfortably beaten its category average over all these terms. It offers the twin benefits of earning high interest rates payment and then capital appreciation, as interest rates fall. It intends to offer investors a high quality portfolio with predominant investment in government owned PSU bonds & AAA bonds. This offers improved risk protection to the portfolio--a portfolio with higher stability. Thus the fund is less susceptible to adverse interest rate movement and hence less volatile.

Tax efficiency and liquidity are the forte of debt funds. However, debt funds are neither risk-free nor assured-return. If you want to invest in debt funds for the long-term, you can consider investing in income funds, which have the flexibility to switch between corporate bonds and gilts. Because of this, not only do they benefit from falling interest rates but also gain from shrinking spreads between corporate bonds and gilts.

1 comment:

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