Returns to expect from debt MFs

The returns provided by debt mutual funds will look quite pale currently as the returns from equity funds are roaring. In the last one year, most of the equity-dedicated funds have generated returns in excess of 40 per cent except for the international category. In the same period, not a single category of debt fund has generated a double-digit return. Return from the entire fixed income securities is low at the current moment. This often leads them to fall into the trap of recency bias, where the recent performance is taken as the basis of the investment. In fact, such a bias is much worst in debt funds than in equity funds.  

This can be explained with the recent example of gilt funds. In recent times, gilt funds have generated returns lower than three per cent in the last one year. What an ideal fund it is; that too, with no credit risk whatsoever and returns lower than saving accounts. Nevertheless, this is just a mere imagination! Debt funds are also risky, even if it's gilt funds. In fact, gilt funds are more prone to interest rate sensitivity. Hence, when the interest rate falls, they would rise (as in the current situation) and vice versa. Hence, it is prudent to set the right returns expectations.  

This is how investors can expect their investment to grow. The one-year average rolling returns of CCIL All Sovereign Bond TRI over the period of 10 years is 9.5 per cent, which is more than three times of the current returns. Even if we see the average return of the last 10 years of the funds in this category, it is nearly nine per cent.   

*as on August 5, 2021.  

Returns from debt funds won’t be as volatile as equity. In fact, funds that hold maximum short-term papers are least sensitive to interest rate movements than those betting on long-term papers. Funds with higher YTMs probably possess a greater credit risk, whereas, funds with longer modified duration are more prone to interest rate risk.  

Hence, if you are holding debt funds for a shorter duration that holds long-term paper, you may see a more volatile return. Therefore, always try to match your financial goals with the duration of the fund.