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Medium Term Income Funds for Your Portfolio

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Investment experts are asking debt investors to add some medium-term income funds to their portfolio, as they believe that a likely softening of interest rates in the next six months would help investors to earn extra returns from them. Experts say that the interest rates may fall by 0.50-0.75% in the second half of the calendar year, as inflation is likely to moderate and the Reserve Bank of India (RBI) may shift its focus to reviving economic growth. If we have a normal monsoon and the fiscal consolidation continues, we could see the 10-year benchmark yield falling below the 8.5% mark by the end of the year. The 10-year government security yield is currently hovering around 9%. A cut in interest rates will benefit longer duration bond funds as they are more sensitive to interest rate movements and will offer capital appreciation for investors. Investors with a high appetite for risk and a timeframe of 15-18 months could invest 25% of fixed income portfolio in medium-term income funds in a staggered manner over the next three months.


Compelling Reasons to Cut Rates


Rising inflation has been a big worry for policy makers in the past few years. However, the data on inflation has been encouraging for the past three months. Both headline wholesale price index (WPI) and consumer price index (CPI) declined sharply during November 2013 to February 2014. WPI has dropped from 7.5% in November 2013 to 4.7% in February 2014. CPI inflation has declined from 11.2% to 8.1%. Experts feel the RBI is in a wait and watch mode before deciding on a rate reduction, as unseasonal rain and recent hailstorms could impact agricultural production and push up inflation. The RBI would wait to see its impact and see how monsoon pans out, before taking a call on cutting rates. Another compelling reason for the RBI to cut rates is the slowing growth, as reviving growth would be the priority of the new government. A cut in interest rates would make many projects viable and would help revive economic activity, which in turn could increase GDP growth.


Only for Risky Investors


However, experts reiterate that this strategy of taking a small exposure to medium term funds is meant only for investors with high risk appetite. This is because there have been instances in the past when investors in income funds incurred losses.
 
For example, the RBI raised interest rates to fight a depreciating rupee in July 2013, which took investors by surprise and led to losses on their income fund portfolio. Invest in income funds, which have a maturity of two to three years

 

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