Returns from debt MFs likely to be modest in 2021

The year 2020 was quite sombre for debt markets due to inflation hopping since November 2019, taking the yields higher. The 10-year benchmark bond yield began in the year at 6.5 per cent and climbed to 6.67 per cent before Reserve Bank of India’s (RBI) cooled off the market. 

The US Federal Reserve cut the policy rates by 150 basis points (100 basis points = 1 per cent) in a matter of weeks pushing the interest rates to zero. Having said, RBI got into the action by the end of March slashing key policy rates such as repo rate by 75 basis points and reverse repo by 90 basis points in an emergency policy meeting. Further, a series of measures were announced in April 2020, which further injected liquidity via long-term repos. Even in May 2020, the cash reserve ratio (CRR) was cut by 40 basis points. Moreover, these measures brought down the 10-year benchmark bond yield to 5.75 per cent. While gradually, the repo rate has been reduced by 115 basis points, the 10-year benchmark yield has moved by about 60 basis points i.e. from about 6.50 per cent on January 1, 2020 to around 5.90 per cent on December 31, 2020. 

Furthermore, the liquidity is likely to sustain as RBI is committed to supporting growth in the financial year 2021-22. Having said, action from RBI is likely to depend on the extent of opening of the economy in 2021 and the inflation course. In 2021, inflation is expected to slow down and the extent of its decline is likely to route RBI policy measures if any. Therefore, investors of debt MFs should expect modest returns in the near-term. Hence, it is advisable for the investors to look at an investment horizon of 3 to 5 years.