Debt Funds gave double digit returns in last one year – Should you invest now?
September 20192 min read
Debt Funds Past Performance
Last year has been a roller coaster ride for the entire mutual fund industry. Extreme volatility in the equity market, IL&FS and DHFL defaults, subpar GDP growth is some of the major factors which affected the mutual fund performance. When the equity funds were struggling to deliver positive returns, some debt funds really outshined with two-digit returns ranging from 15% – 20% over the last year. Unbelievable, right? Well, look at the data below:
The reason behind the past performance
We looked at debt funds with returns more than 15% arranged in descending order of their AUM. The common factor amongst all these funds is that they invest in long-duration debt papers. Specifically in long-duration government bonds. Now you may ask, how does that justify the extraordinary performance of these funds? Look at the graph below:
After IL&FS default (which came as a surprise to the debt industry), the demand for government bond went up due to its sovereign status (no default guarantee). Investors preferred to stay away from the corporate bond as they feared the instance of default. And it eventually happened with DHFL (due to lack of liquidity in the corporate bond market).
A Way Forward for your Portfolio
Does that mean you will get similar returns in the future? Will your capital be protected in these funds since the investments are in government securities with no default risk?
Sadly answer to both the questions is NO.
As you know “past performance is not a guarantee of future performance” applies to this category also. Additionally, it is extremely difficult for a normal investor to predict the movement of G Sec yield. If you happen to invest while yields are rising and sell when they fall then you will get good returns but if you invest only based on past returns then more often than not you will end up getting subpar returns.
Also, do not be under the impression that if you invest in these funds, your capital will be safe. The G sec yield has been volatile in the past and if you get caught in the wrong cycle (I.e. if you invest when the yields are going down), you can get negative returns from these funds which as happened before.
Bottom-line is you may invest in these funds if you completely understand the functioning of debt funds and the inherent risk. Or take assistance from a financial advisor who can help you navigate through different market cycles.
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