For the time being, stick with bank FDs and short-term debt funds

 For the time being, stick with bank FDs and short-term debt funds

Watch for increases in bond rates that cause investments in long-term debt to replace short-term debt funds. Current interest rates make fixed deposits an appealing investment. Avoid chasing yields since they could signal increased credit risk.

The Reserve Bank of India (RBI) has decided to maintain the repo rate at 6.5 percent notwithstanding the current state of affairs in the world. Fixed-income investors were concerned about the monetary policy review on October 6 and the potential effects of increasing US bond rates and crude oil prices.

Despite putting a lot of effort into getting inflation down to the targeted level of 4%, the RBI chose to maintain its current monetary policy stance. A excellent moment to commit funds to fixed income is now due to the current attractive bond rates.

Condition quo

First, the monetary policy committee (MPC) of the RBI chose to maintain the policy of withdrawing accommodation. This supports growth while ensuring that inflation gradually converges to the objective. In addition to maintaining the same interest rates, the MPC also maintained the growth projection, projecting 6.5 percent real GDP growth for FY2023–24. The MPC chose to maintain the inflation projection despite rising crude oil prices, an unpredictable monsoon, and a rise in food costs in the domestic sector.

For FY2023–2024, the RBI expects inflation to be 5.4 percent. "September is predicted to see a significant decrease in inflation. But there are signs that food inflation may not have a prolonged decline from October through December 2023. This necessitates close monitoring of the outlook and incoming data, according to RBI Governor Shaktikanta Das.

He said that the range for inflation is between 2 and 6 percent, but the aim is 4 percent.

This basically indicates that the eagerly anticipated interest rate reduction may occur longer than anticipated.

According to Madhavi Arora, Lead Economist at Emkay Global Financial Services, the present policy narrative is still more dependent on inflation uncertainty and liquidity management than it is on the fluid and ambiguous global narrative as markets reprice 'higher for longer'.

"Given the latency in how global financial circumstances are transmitted, there may be more volatility in the future. Even if domestic inflation is predicted to reach policy objectives by the end of FY24, the RBI faces challenges from high market rates and historically low interest differentials, according to the official.

Even though the RBI has said that inflation targeting is still a top goal, market investors do not anticipate any more rate increases.

Suman Chowdhury, Chief Economist while Head of Research at Acuité Ratings & Research, commented: "The extent of hawkishness in the announcement has decreased with MPC sticking to its annual inflation forecast at 5.4 percent despite the uncertainty surrounding food prices and the sharp rise in global crude oil rates over the last 2-3 months."

He anticipates a rate-related pause from the MPC. Chowdhury noted that any potential rate reduction may not happen until the first quarter of FY25.

Short-term investments

Investors should take advantage of the present bond rates while they are still favorable. The advice offered by experts on fixed income is this. However, the majority of them are outspoken against investing in short- to medium-term length plans.

Synergee Capital Services founder and managing director Vikram Dalal advises investing in short-duration funds since he does not anticipate an interest rate cut in FY2023–2024.

Value Research estimates that returns on short-duration funds were 6.73 percent for the year that ended on October 5, 2023. An appealing portfolio yield to maturity for short-duration funds is 7.36 percent on average.

When investing in short-term funds, one should consider the scheme's track record, creditworthiness, and fee ratio.

The head of debt markets at GEPL Capital, Deepak Panjwani, wants to consider G-Secs that would mature in five years.

The 5-year G-Sec is yielding 5 basis points more than the benchmark 10-year bond because of the inverted yield curve. The yield curve will align if rates are going down and there is a lot of demand for shorter-term bonds. As the 3-5 year segments will get greater interest from international portfolio investors, the inclusion of Indian bonds in the global index would also aid in the drifting down of rates, he claims.

Investors have received 7.1% returns from constant maturity plans following the Nifty 5-year benchmark G-Sec during the last 12 months. Such products are provided by fund companies including ICICI Prudential, Motilal Oswal, and Nippon India.

Due to the favorable interest rates offered, investors may also want to consider investing in fixed deposits with maturities between one and three years. Avoid chasing yields since they could point to a bigger credit risk.

For those in high income tax brackets, Panjwani also advises investing in tax-free bonds.

Long-term investments

Longer wait times may be required for investors who are eager to profit from long-term programs. If yields increase during uncertain times, new funds might be allocated. Only when there are signs that the RBI's posture has changed from the removal of accommodation to neutral does Dalal advocate switching from short-duration to long-duration funds.

In the last year, long-term funds and gilt funds have returned 7.36 percent and 6.64 percent, respectively.

When investing, retail investors should try to align their time horizon with the length of the debt fund. Debt funds may suffer losses at the mark-to-market during turbulent periods. Investors may manage such volatility with a long enough time horizon.