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Rising interest rates and consequent decline in bonds prices dented the one-year performance of funds that invest in long-term debt instruments.
However, with the RBI indicating a likely pause to its interest rate hikes, the tide may soon turn. Investors with a three-year time frame can now consider adding debt funds with a longer portfolio maturity to their fixed income portfolio. Birla Sun Life Dynamic Bond Fund may be a good addition at this juncture.
Income and 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 per cent, 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.
Flexible and active
One, its 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 October 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 per cent of assets while certificates of deposit made up 18 per cent. In recent months, the fund has halved its exposure to certificates of deposit and added both cash and gilts.
A 23.5 per cent exposure to cash equivalents gives the fund the ability to add gilts or even lengthen the maturity profile further, if interest rates do plateau.
Credit quality
Three, despite being actively managed,
The fund has stayed clear of instruments with doubtful credit quality. In the latest October portfolio, 59 per cent was invested in triple-A while only 11.9 per cent 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.
A five-year track record of delivering a 9 per cent annualised return and the benefit of having a seasoned debt manager in Mr Maneesh Dangi are other factors in favour of the fund.
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