Fund Call. SBI Magnum Gilt Fund: Safe option during market storms

By holding rates for the fourth consecutive time, the RBI disappointed the market in its latest June policy. But the yield on the 10-year G-Sec fell marginally, post policy, to 6.5 per cent levels, as the RBI lowered its inflation target for FY18.

The low May inflation number, many believe, may have opened up a window for a rate-cut in the coming months. The yield has further inched lower to 6.4 per cent recently.

But, given that the RBI’s rate action hinges a lot on how inflation pans out in the coming months, bond markets could remain volatile. Debt investors can hence, stay clear of duration calls (betting on rate movements) and, instead, invest in short-term funds that carry less volatility in returns.

Given the recent downgrade of bonds by rating agencies, it may also make sense to avoid funds with higher exposure to lower-rated papers, particularly for conservative investors with low risk appetite.

SBI Magnum Gilt Fund - Short Term, a consistent performer across rate cycles, mitigates both interest rate and credit risks. It predominantly invests in government securities and hence, does not carry any credit risk (of default). While it does carry interest rate risk, it is lower than that in long-duration gilt funds.

The modified duration of the fund has been under three years over the long run. Investors with one to two years’ horizon can invest in this fund.

The trend in CPI inflation is unclear as of now. Vegetable and pulse prices have seen a steep decline, thanks to good production in 2016-17.

Uncertainty around GST has also led to traders deferring their buying, impacting prices. Monsoon is another joker in the pack that can impact food prices. HRA increase under the Seventh Pay Commission and base effect trickling in can well push up inflation. This can limit the RBI’s ability to cut rates, impacting bond yields.

Given the many ifs and buts, investors can ride the volatility in interest rates in the coming months by investing in shorter duration gilt funds.

In the past, the fund has been able to weather sudden moves in interest rates well.

In 2013, for instance, when rates went up sharply post the RBI’s liquidity tightening measures, the fund delivered 9-odd per cent returns. Long-term gilt funds gave a modest 3-5 per cent return.

More recently, even in the so-so market of 2015, the fund was able to beat long duration bond funds by around three percentage points.

But while shorter duration bonds, which are less sensitive to interest rates, gain when markets are volatile, they may also fail to deliver spectacular returns, in a falling rate cycle.

In the bond market rally of 2014 or 2016, the fund has delivered lower return than long-term gilt funds. In 2016, when long-term gilt funds, on an average, clocked 16-17 per cent return, SBI Magnum Gilt Fund - Short Term reported a lower 12.8 per cent return.

But given the uncertainty around rates now, the fund may be a better bet than long-term gilt funds.

The fund currently has modified duration of 1.5 years and yield to maturity of 6.6 per cent.

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