Most smart investors have been hoping to get double-digit returns as soon as the RBI hits the pause button. Yes, we are talking about debt mutual funds here, not equity mutual funds. Debt mutual funds are likely to offer better returns in 2023. They will offer even higher returns when the RBI starts cutting interest rates. Want to find out what’s happening?
Debt mutual funds benefit when the interest rates start falling. If you are new to the debt scene, bond prices and yields have an inverse relationship. When the interest rates are falling, prices of bonds go up and it may push up net asset values of debt funds. This is mainly because investors pay more for bonds with higher interests because new bonds will come with lower interest rates. If you could follow this, now we will move towards the risks.
As you have seen, falling interest rates are great news for debt mutual fund investors. However, any uncertainty or even a small hike in interest rates may result in excessive volatility in debt schemes, especially in gilt schemes and long-term debt funds. This is extremely crucial as long-term debt schemes and gilt schemes offer double-digit returns when interest rates start coming down.
The RBI surprised the money market and paused rate hikes in its policy review in the last week. However, we still can’t rule out a small hike – the money market participants were predicting a quarter per cent increase and a pause earlier. After the RBI pause, most analysts said they are not sure how long the RBI might hold rates. They also said the banking regulator might hike interest rates if any data point towards uncertainty. However, everyone agrees that India is near the end of rate hikes. You can use this to get into long-term debt funds and earn double-digit returns.
If you are convinced about the argument, you can invest in long term debt funds and gilt funds. However, keep in mind that these schemes are extremely sensitive to interest rate changes and they lose heavily when rates start going up. So, you should keep in mind that softer rates would start firming up again after some time. Interest rates move in cycles- long-term debt funds offered double-digit returns in 2019 and 2020 – that’s why it is important to get in and out of these schemes at the right time.
