GEMGAZE
December 2011

The unexplored treasure

In India, it is still the institutional investors who mostly invest in fixed income mutual fund products. Retail investor participation in this asset class through mutual funds is negligible. This is counter-intuitive considering the vast amount of savings that the Indian investors have in bank fixed deposits. If one looks at the asset allocation pattern of Indian retail investors, it is evident that Indians are predominantly fixed income investors by nature and convention. This anomaly is clearly an opportunity for the mutual fund industry. In terms of diversity of product offerings, the industry has come a long way. Debt mutual fund products come with different permutations of liquidity (or tenors), credit quality and interest rate-related volatility to address various investment requirements based on an investor's investment objective, risk appetite, and time horizon. The product bouquet encompasses liquid and ultra short-term funds, which invest in money market securities; fixed maturity plans that invest in securities matching the scheme tenure so as to lock in the yield prevailing at that time; income and gilt funds; capital protection-oriented schemes; and a vast offering of hybrid products with different combinations of equity and debt. The industry needs to invest in increasing awareness among retail investors so that they can take advantage of a wide array of useful products.

In December 2011 GEMGAZE, I showcase the GEMs among the debt funds. Kotak Bond Regular Fund and BNP Paribas Flexi Debt Fund have made an unceremonious exit paving way for fresh blood both from the Birla lineage – Birla Government Securities Fund and Birla Floating Rate Fund.

ICICI Prudential Gilt Investment Fund Gem

ICICI Prudential Gilt Investment Fund, a pure debt fund that invests only in government securities, has an AUM of Rs. 221 crore. The average maturity of the fund is high at 6.99 years, the yield to maturity (YTM) is 8.8%, and the credit quality is high. The portfolio is concentrated with 6 holdings with 84% in Government of India securities and 16% of the portfolio in cash. The fund has returned 6.43% in the past one year as against the category average of 6.40%. In recent times, the RBI has undertaken a series of rate cuts to infuse liquidity into the system. The falling interest rates have translated into an appreciation in prices of long-term bonds and government securities alike. Expectedly, this fund has benefited. The returns since launch have been a laudable 10.6%. The expense ratio is 1.5%.

Canera Robeco Income Fund Gem

Canara Robeco Income Fund (CRI), a pure debt fund that mostly invests in securities with maturity of over a year, has an AUM of Rs. 119 crore. The average maturity of the fund has fallen drastically from 8.23 years to 1.74 years, the average YTM is 9.59%, and the credit quality is high with AAA rated papers. The fund maintains a well-diversified portfolio of 17 holdings with the top 5 holdings constituting 52.76% of the total portfolio. Debentures constitute 48% of the portfolio, Government of India securities 8%, Commercial Paper 23% and cash 20%. The fund has delivered superior performance over the last three- and five-year periods, despite slipping somewhat in performance lately. Over a three-year period, CRI registered a 13.5% return, against the category average of 6.5%. Last year income funds, in general, under performed the debt category when compared with short-term debt funds. The rise in yields over this period led to fall in prices for the longer-term securities, affecting their portfolios. However, the fund consistently beat its benchmark CRISIL Composite Bond Fund Index. The fund's one-year return stood at 7.7%, against the category average of 8.02%. The returns since launch have been 8.78%. The expense ratio is 2.2%.

Birla Sunlife Dynamic Bond Fund Gem

Gilt funds can deliver negative or low returns when interest rates rise. However, with the yields on the benchmark 10-year government security now poised at 8.9%, a three-year high, investments made now in long term gilts/bonds may face limited downside risk. The Birla Sun Life Dynamic Bond Fund appears a good play in the above scenario, due to three factors. One, the fund has the flexibility to actively lengthen or shorten the maturity of its portfolio to deal with interest-rate risk. The fund has increased the average maturity of its portfolio from 1.6 years in March to 4.3 years in its latest portfolio. The longer maturity may pay off as interest rates peak out over the next few months. Two, the fund has actively invested in a mix of corporate bonds and gilts to take advantage of the widening or narrowing of spreads between the two. In June 2011, corporate debentures took up 51% of assets while certificates of deposit made up 18%. In recent months, the fund has halved its exposure to certificates of deposit and added both cash and gilts. A 23.5% exposure to cash equivalents gives the fund, the ability to add gilts or even lengthen the maturity profile further, if interest rates do plateau. Three, despite being actively managed, the fund has stayed clear of instruments with doubtful credit quality. In the October portfolio, 59% was invested in triple-A while only 11.9% was in papers with AA+ rating. The focus on credit quality could become important in the months ahead as companies grapple with the lag impact of recent increases in interest rates. The average YTM is 9.7%, and the credit quality is high. The portfolio is diversified with 34 holdings and the top 5 holdings constitute 51% of the total portfolio. The fund has returned a commendable 8.96% in the past year as against the category average of 8.02%. The returns since launch have been 8.01%. The expense ratio is very low at 0.88%.

Birla Sunlife Government Securities Fund (LT) Gem

Incorporated in October 1999, Birla Sunlife Government Securities Fund - Long Term has an AUM of Rs. 382 crore. Risk-averse investors looking for relatively safe debt options in the mutual fund category can consider investing in Birla Sun Life Government Securities Fund Long Term Plan. With a compounded annual return of 11.3% over the last three years, the fund convincingly beat its benchmark I-Sec Li-Bex, by over four percentage points. Active management of interest rate risk and ability to identify and benefit from short-term technical abnormalities in the interest rate curve have ensured that the fund is among the top five in the medium and long-term debt funds category. While the name of the fund may suggest that it is a typical long-term gilt fund, the fund has a highly flexible strategy. It can take exposure to Government securities of both Central and State governments and can also invest in more short-term treasury bills. To this extent, it can take advantage of any rallying interest rate scenario by moving to short-term treasury bills. This not only protects the portfolio from any lacklustre performance in long-dated instruments but also peps up returns albeit for a short duration. A more important asset allocation mandate is that the fund can only invest in government securities. This effectively brings the credit risk of the fund's portfolio to almost nil as all government instruments come with a sovereign guarantee. The average yield to maturity of the fund is 8.77% and the credit quality is high. The portfolio has 5 holdings with Government of India securities constituting 98% and cash 2%. The fund has returned 7.32% in the past one year as against the category average of 6.4%. The returns since launch have been an impressive 9.43% and the expense ratio is 1.5%.

BSL Floating Rate Fund (ST) Gem

Incorporated in June 2003, Birla Sunlife Floating Rate Short Term Fund aims to generate regular income through investment in a portfolio comprising substantially of floating rate debt/money market instruments. The fund sports an AUM of Rs. 2200 crore. The YTM is at 9.29%, and the credit quality is high. Looking at the investment strategy, the scheme has invested in high-quality bonds, which are the safest bets. This conservative approach has helped the fund generate positive returns even when the market plunged in 2008. The portfolio has 17 holdings and the top 5 holdings constitute 52.24% of the total portfolio. Certificates of Deposit constitute 76% of the portfolio, cash 10%, term deposits 8%, and Commercial Paper 6%. The fund fetched 6.02% and 7.07% returns compounded annually for 2-year and 5-year period, respectively, while its benchmark stood at 5.01% and 6.52%. The fund has returned 8.84% in the past one year as against the category average of 8.47%. The returns since launch have been 6.53%. Having a lower expense ratio of 0.36% has been favourable for the fund.