Credit ratings & debt funds

When it comes to mutual funds, people tend to rely on its star ratings to shortlist funds and mostly, four or five-rated funds. Similarly, when it comes to investing in debt instruments such as commercial papers, debentures, bonds, corporate deposits, term deposits, etc., people rely on credit ratings.

There are various credit rating agencies like CRISIL, ICRA, Fitch, etc. that provide credit ratings to various debt instruments.

The above image shows you the long-term credit ratings of CRISIL along with what each credit rating means. In the coming paragraphs, we would understand how these credit ratings are linked with debt mutual funds.

A debt fund is a portfolio of debt instruments. Besides, the strategy of each debt fund differs. Some might play with duration, some with interest rates while others with credit risks. Therefore, it’s crucial to zero down on strategy before investing in debt funds. Further, as debt funds invest in various different debt securities, most of them carry varied credit ratings. And therefore, it makes more sense to check the average credit ratings of the debt funds to understand the risk involved.

Moreover, funds betting on the upgradation of credit ratings stand to gain the most as upgradation of credit rating is a positive sign. Say, for instance, a BBB-rated instrument is upgraded to an ‘A’ credit rating, then this boosts the returns of that instrument as the yield on the same instrument tends to fall. And as we know the logic, the yields fall bond price rises and vice versa. Hence, such upgrades are worth noticing as this also has an impact on the share price of that company as well.