The Covid-19 pandemic has had a large bearing on the global as well as domestic financial markets. Even the hitherto steady fixed income space is shaken. Debt mutual funds reported outflow of Rs 1.94 lakh crore in March 2020, the second highest for the category since the IL & FS debt fracas in September 2018. While April and May saw inflows into debt funds, except the liquid category, most investor money has been invested in less risky categories such as Banking & PSU funds. The category witnessed net inflows of Rs 8,873 crore in May, the highest since the Association of Mutual Funds in India (AMFI) started declaring inflow/outflow and Assets Under Management (AUM) numbers as per the new categorisation in April 2019. In this article, we look at how this category presents a relatively less risky investment opportunity for investors.
Though Banking and PSU funds have existed for a long time, a separate category was carved out by the Securities and Exchange Board of India (SEBI) in October 2017 – one of the 16 new categories launched by capital market regulator as part of its recategorisation move to bring in uniformity and enable investors to make informed investment decisions. As per the SEBI mandate, Banking and PSU funds are open-ended debt schemes required to invest 80% of their assets in debt instruments of Banks, PSUs, Public Financial Institutions (PFIs) and Municipal Bodies.
Most of the schemes in this category aim to maintain an optimal balance of yield, safety and liquidity. Their strategy is to mitigate credit risk and generate returns through a blend of accruals and active duration management.
Accrual strategy involves buying short-term debt instruments and holding them till maturity, which reduces interest rate risk.
Duration strategy involves taking a call on the interest rate movement and accordingly adjusts duration of portfolio with an aim to garner better returns.
In addition, these funds are guided by the key principle of SLR - Safety, Liquidity and Returns.
Let’s start with credit quality. By design, these funds primarily invest in top-rated instruments of the debt market – bonds and debentures issued by Banks, PSUs and PFIs. Some common examples of securities held by the category include NABARD, Indian Railway Finance Corporation, Food Corporation of India, Export Import Bank of India, National Highways Authority of India, Gail, NHPC, NTPC, Power Finance Corp and Power Grid Corporation of India. Most of these bonds and debentures are AAA-rated. Issuers with AAA rating have relatively highest safety and lower credit risk than those with AA or below rating.The risk of default is very low in case of these instruments as they are supported by the government. Analysis of the credit quality of Banking and PSU debt funds shows that exposure to higher-rated papers (AAA\A1+ and Government of India securities and treasury bills (GOI/T-Bills) remained constant in the one year that ended this May despite deterioration in investor sentiments.
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