Should investors invest in gilts or corporate debt funds?

With an anticipated cut in repo rate by the RBI, debt funds look attractive

Published 9 years ago on Sep 28, 2015 1 minute Read

Vidya Bala, head, mutual funds research, FundsIndia

With macro stability, inflation stabilising and Federal Reserve’s pause, there is some room for the RBI to cut rates; although further cuts would be determined by the impact of the deficit monsoon on food inflation. With opportunity consolidating on the yield curve, there appears enough scope for a duration play to kick in, with prices of debt instruments rallying as yields slide; thus, providing capital appreciation opportunities. In the corporate bond space too, contraction in spread, as a result of rate cut and, more importantly, capital gain opportunities from upgrades that happen typically during a corporate earnings recovery can provide sustained long-term return opportunities. As long as the creditworthiness and business fundamentals of the underlying companies remain sound, the opportunity in the corporate bond space can be expected to be more sustained as opposed to gains from duration, which may happen in short spurts. For those willing to hold for at least two years, the opportunity in debt funds, especially medium-term accrual and dynamic bond fund remain ripe.

Murthy Nagarajan, head, fixed income, Quantum AMC

This year the average inflation will be around 5%. If the Fed too starts hiking rates by the year-end, commodity prices will fall as the dollar strengthens. And, if commodity prices remain low for a longer duration, inflation will stay benign. Hence, we are expecting a 75 basis points (bps) cut. Of this, 25 bps cut will come now and another 50 bps next year. Debt funds will see more than double-digit return at least for next year. One can look at gilt funds, fixed income and dynamic funds. However, we are not confident of corporate bonds. If the scenario of low commodity prices continues, then there will be more credit risks in the system as revenues and profits of companies falter. They are already getting downgraded. If commodity prices continue to fall the way they are, the pain will last for next two years. This will widen the spread between gilts and corporate bonds, making gilts more attractive.