Skip to main content

RISKS of DEBT SCHEMES


Lets us first understand what makes the NAV of debt schemes move to better understand the actual impact of this move.

WHAT ARE THE RISKS THAT DEBT SCHEMES ENTAIL?


CREDIT RISK:


Mutual Funds invest in debt securities such as Government Securities and Bonds issued by companies. While the Government Securities (or Gilts) are considered risk free on account of credit, they remain highly rate sensitive. Similarly, corporate bonds also react to the rate movements. They however, can also decline in cases of rating downgrades since companies can default on their debt. We saw similar price impacts in past in case of JSPL & Amtek Auto.

Mitigation: Strong fundamental research regarding the underlying papers helps in making the right choices. Along with this the portfolios are managed dynamically to ensure the rebalancing in case of any risk of default.


LIQUIDITY RISK


The fund manager may not be able to liquidate a security due to lack of demand (low volumes) or even inappropriate valuation being offered.

In such cases, the Fund Manager may be forced to hold the security for a longer period than he / she desires. In case of very high redemption pressure, the fund manager may sometimes be forced to sell the security at a low price or may be forced to restrict redemptions. Hence, you may not be able to take out money even if you wanted to.

Mitigation: All the funds, any point in time, maintain sufficient liquid/cash equivalent assets in order to meet the anticipated redemptions.


INTEREST RATE RISK:


A debt scheme is merely a portfolio of underlying bonds. The maturity (or better assessed through 'Duration') is a measure of how sensitive the bond is to movement of market interest rates. The duration of the scheme is the weighted average of duration of underlying securities.


Higher the duration (interest rate sensitivity) of underlying bonds, higher the resultant duration of the scheme. And higher the duration of a mutual fund, the greater the sensitivity of NAV to interest rate movement. In simple terms, if the duration of a debt scheme is 8, the NAV of the scheme will go down by 8% if the interest rate goes up by 1%. On the other hand, if the interest rate goes down by 1%, the NAV of the MF scheme will rise by 8%.


It is however, notable that any adverse impact of duration is more marked to market basis and still reversible unlike credit, where the impact of adverse credit movement can prove to be irreversible.


Mitigation: Backing on strong economic research and macro indicators, the fund house has benefitted from various rate cycles by switching strategies from "accrual to duration" and "duration to accrual" as and when required. Over the past many market cycles

NAV of debt funds can be influenced from external events also apart from domestic factors like inflation, growth etc as they can manifest in any of the above mentioned risks.

For instance, in mid 2013, a number of foreign investors started selling Indian debt heavily on account of Taper Tantrum and resultant risk aversion to all emerging markets including India. Excessive selling put pressure on bond prices as when the supply is high (people are selling) as compared to demand, prices typically go down. NAV of debt mutual funds across categories took a severe beating during the time.

Fund Categories largely differ based on their interest rate sensitivity (measured through Duration) or the average credit quality of the underlying securities that they invest in. Generally, the funds with higher duration or more aggressive credit positioning are the most volatile. As such, during July 2013, many debt funds faced similar NAV impact as in Feb 2017.

Now, what should a normal investor do in such moments of stress? Typically, in the fear of losing more an investor tends to redeem the investments and thus books these marked to market losses. It is important here to note that, the chances of one's capital getting wiped off in a debt scheme are low as long as it is duration driven. The loss, however severe will be notional unless redeemed. Especially, when the economy is stable and bond prices fall due to negative sentiment, one should ideally wait for the fund to recover losses.

Is the recovery possible?

Yes, it is possible for a debt scheme to recover by continuing to accumulate the coupons from various underlying holdings. At the same time as sentiment reverses (for better) and markets recover, the positive movement from bond prices also adds to recovery.

But, how long one must wait before the losses are recovered?

The answer to this question is quite subjective as the time require by different funds will be different. The activity level of fund management also plays an important role in such NAV recovery.

Let's assume Fund A has a YTM of 6% and Fund B has a YTM of 8% & NAV of both the funds suffers due to a market event by 3%.

Now Fund A will recover in 6 month while Fund will make the same recovery in 2-3 months.



Invest Rs 1,50,000 and Save Tax upto Rs 46,350 under Section 80C. Get Great Returns by Investing in Best Performing ELSS Funds

Top 10 Tax Saver Mutual Funds for 2017 - 2018

Best 10 ELSS Mutual Funds to invest in India for 2017

1. DSP BlackRock Tax Saver Fund

2. Invesco India Tax Plan

3. Tata India Tax Savings Fund

4. ICICI Prudential Long Term Equity Fund

5. Birla Sun Life Tax Relief 96

6. Franklin India TaxShield 

7. Reliance Tax Saver (ELSS) Fund

8. BNP Paribas Long Term Equity Fund

9. Axis Tax Saver Fund

10. Birla Sun Life Tax Plan



Invest in Best Performing 2017 Tax Saver Mutual Funds Online

Invest Best Tax Saver Mutual Funds Online

Download Top Tax Saver Mutual Funds Application Forms


For further information contact SaveTaxGetRich on 94 8300 8300

------------------------------------

Leave your comment with mail ID and we will answer them

OR

You can write to us at

Invest [at] SaveTaxGetRich [dot] Com

OR

Call us on 94 8300 8300

Popular posts from this blog

Tata Mutual Fund

Being a part of the Tata group, the fund has the backing of a very trusted brand name with strong retail connect. While the current CEO has done an excellent job in leveraging the Tata brand name to AMC's advantage, it is ironic that this was just not capitalised on at the start. Incorporated in 1995, Tata Mutual Fund remained an 'also-ran' fund house for around eight years. Till March 2003, it had a little over Rs 1,000 crore in assets and 19 AMCs were ahead of it. But soon after that the equation changed. It was the fastest growing fund house in 2004 and 2005. During these two years, it aggressively launched six equity funds, two debt funds and one MIP. The fund house as of now stands at No. 8 in terms of asset size. This fund house has a lot to offer by way of choice. And, it also has a number of well performing schemes. Tata Pure Equity, Tata Equity PE and Tata Infrastructure are all good funds. It also has quite a few good debt funds. The funds of Tata AMC are known to...

UTI Mutual Fund

Even though only a few of UTI’s funds are great performers, this public sector fund house has many advantages that its rivals do not. It has a huge base of retail equity investors and a vast distribution network. As a business, it looks stronger than ever, especially in the aftermath of credit crunch. UTI is, by a large margin, the most profitable fund company in the country. This is not surprising, since managing equity funds is more profitable than debt. Its conservative approach and stable parentage is likely to make it look more attractive to investors in times to come. UTI’s big problem is the dragging performance that many of its equity funds suffer from. In recent times, the management has made a concerted effort to improve performance. However, these moves have coincided with a disastrous phase in the stock markets and that has made it impossible to judge whether the overhaul will eventually be a success. UTI’s top performers are a few index funds, some hybrid funds and its inf...

Salary planning Article

1. The salary (basic + DA) should be low. The rest should come by way of such allowances on which the employer pays FBT and you don't pay any tax thereon. 2. Interest paid on housing loan is deductible u/s 24 up to Rs 1.5 lakh (Rs 150,000) on self-occupied property and without any limit on a commercial or rented house. 3. The repayment of housing loan from specified sources is also deductible irrespective of whether the house is self-occupied or given on rent within the overall ceiling of Rs 1 lakh of Sec. 80C. 4. Where the accommodation provided to the employee is taken on lease by the employer, the perk value is the actual amount of lease rental or 20 per cent of the salary, whichever is lower. Understandably, if the house belongs to a family member who is at a low or nil tax zone the family benefits. Yes, the maximum benefit accrues when the rent is over 20 per cent of the salary. 5. A chauffeur driven motor car provided by the employer has no perk value. True, the company would...

8 Investing Strategy

The stock market ‘meltdown’ witnessed since the start of 2005 (notwithstanding the recent marginal recovery) has once again brought to the forefront an inherent weakness existent in our markets. This is the fact that FIIs, indisputably and almost entirely, dominate the Indian stock market sentiments and consequently the market movements. In this article, we make an attempt to list down a few points that would aid an investor in mitigating the risks and curtailing the losses during times of volatility as large investors (read FIIs) enter and exit stocks. Read on Manage greed/fear: This is an important point, which every investor must keep in mind owing to its great influencing ability in equity investment decisions. This point simply means that in a bull run - control the greed factor, which could entice you, the investor, to compromise with your investment principles. By this we mean that while an investor could get lured into investing in penny and small-cap stocks owing to their eye-...

Debt Funds - Check The Expiry Date

This time we give you an insight into something that most debt fund investors would be unaware of, the Average Portfolio Maturity. As we all know, debt funds invest in bonds and securities. These instruments mature over a certain period of time, which is called maturity. The maturity is the length of time till the principal amount is returned to the security-holder or bond-holder. A debt fund invests in a number of such instruments and each of these instruments would be having different maturity times. Hence, the fund calculates a weighted average maturity, which would give a fair idea of the fund's maturity period. For example, if a fund owns three bonds of 2-year (Rs 30,000), 3-year (Rs 10,000) and 5-year (Rs 20,000) maturities, its weighted average maturity would be 3.17 years. What is the big deal about average maturity then, you may ask. Well, knowing a fund's average maturity is important because it tells you how sensitive a fund is to the change in interest rates. It is ...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now