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Thursday, April 6, 2017

Credit Opportunities Funds



Such funds typically invest in high yielding but lower rated corporate bonds, which have high default risk

With the Reserve Bank of India signalling a pause in rate cuts, the duration play for bond fund investors--where falling interest rates boost prices of longer tenure bonds-seems to have run its course for now. Investor interest could shift to credit opportunities schemes.

Credit Opportunities Funds generate returns from interest accrual investing in high yielding but lower rated (AA or below) corporate bonds.They also look for upgrade in credit rating of underlying bonds, which can lead to price appreciation. The segment has become popular and has assets worth `80,000 crore. IDFC Mutual Fund has just announced a new offering in this space-- the IDFC Credit Opportunities Fund --which is open for subscription until February 27.

Credit opportunities funds are slowly moving from being niche to mainstream. He finds investor expectations from this space in terms of return profile are also becoming more mature. We are encouraged by the enhanced supply of paper in the mid-yield segment.This allows us to build a portfolio that closely mirrors the risk-reward offering that we intend to aim for in the credit space.


Some experts feel that the outlook for this segment is improving given that the borrowing cost for corporates is expected to come down with banks having excess liquidity post note recall.


Borrowing rates for companies have come down over the past couple of years, and the recent build-up in liquidity should help leveraged companies reduce debt. This may lead to rating upgrades, which could boost returns. Investors can consider moving partially to the credit opportunities space now that the duration play has taken a back seat. The spread in yield between AA or lower rated paper and AAA rated instruments is contracting, providing an opportunity for investors.


However, there are concerns. Although credit opportunities funds have not been affected by unfavourable yield movement, the risk of default in underlying companies remain high. There were seven credit rating downgrades last month but no major rating upgrades. So, investors should not chase yields without having safeguards in place. Avoid going for aggressive funds that chase higher yields in very low rated instruments.




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