It is quite straight forward. Interest rates will only decline if inflation is receding. Thus the cause of receding inflation matters the most in determining what happens to equities.
If inflation is receding because economy is weakening, then equities will not do well. As ,even though valuations will appreciate for equities, the earnings will decline which would mean prices will decline.
If inflation is receding without weakening of economy, then equities will do well. earnings will sustain, the valuations will rise leading to a rise in equity prices.
In 2022 pretty much all bond funds fell along with equity internationally due to the increase in rates by most central banks. Many debt funds fell 7 to 10 % solely on interest rate increases without any defaults. However, many debt funds moved close to 7 % in the last 3 months of 2023 anticipating future rate cuts. As for FDs, one doesn’t have to worry about who it is lent to. Rather one can look at CRAR to know how well a bank is capitalised so that one doesn’t have to worry about bankruptcies. For instance, Govt used to regularly infuse capital into PSBs to maintain this CRAR. Definitely, the return on debt funds are expected to be better. If we are taking into consideration the chances of default in bond funds, the big question is the differential in returns worth the risk?
Returns on bond funds mentioned are for international funds, never tracked Indian bond funds.
Internationally, capital gains and interest income are taxed differently. So, in the case of an FD all of it is interest income whereas on bond funds it is a combination of interest income and capital gains. So this is a benefit on bond funds
Hi Rajneesh - I released a video on the efficacy of investing in long duration bonds/mutual funds this weekend. The presentation has multiple data points, do have a look
Thanks Shankar. I had already seen this video. Btw I have been following yoy for long on YouTube and I owe you a lot for my investing understanding.
I’m still not been able to figure out a simple way to invest in alibaba(refer p/e of 1 video). Best I could find few fofs with high ter but that’s a basket and not alibaba.
But then china is continuously sliding since then as well.
Hi Shail shifted 7.5% of portfolio to HDFC long duration fund. Thanks for your guidance.
I also have another 7.5% in short duration funds for last 3 years and had invested when interst rates were rising and retuns are pathetic 6%.
Do you suggest to move that too to long durations?.
I have additional 15% of corpus in arbitrage with 7.8% returns.
All this (30% in total) in less risky assets expecting a crash while market went up 30%+ in last couple of months . But then I reaped the benefits of this bull run in blance 70% of portfolio mostly in good flexi/contra funds
Now the story is that large caps will go up this year at expense of small/mid caps. I’m quite clueless of how to navigate. Should I take some exposure to large caps out of 30% I have in arbitrage / debt funds?
Offcourse I know there’s no right answer to this question but then should I wait and route to complete and then move to equity? Your perspective will really help
I cannot really provide you an advise on allocation of your portfolio.
There is a higher probability that long duration funds will perform better than short duration in this 1 year. So it makes sense to allocate more to long duration funds.
As for small and midcaps, the SEBI’s rule is certainly going to negatively impact them. For my case, I am holding companies which I want to hold for quite a few years, thus correction or not doesn’t change my thesis on whether to hold them or not.
It was specifically addressed to Shail and he has replied too but here are some points, if it can be of help. Again, it will won’t be a pointed advice, as you are seeking but only general observations : 1) A lot will determined on the basis of the tax and surcharge bracket, you are in. After all, net returns counts and nothing else. 6% in short duration funds, over 3 years is actually the better of the returns…some have done as pathetic as 4.5-5% and the passover effect of ‘would be’ interest rate cut is far off from short term funds, as of now. . Post tax, this will be even lesser but if you had bought them 3 years ago, the saving grace is indexation can be applied to the ones if you redeem now 2) The taxation on arbitrage funds will be same as Equity and hence an 8% in arbitrage is equal to getting 10.6% in debt fund (assuming it is LTCG in arbitrage…if not, it will be equal to 10.1%…assumption top tax bracket). plus most arbitrage funds, don’t have exit loads or have exit loads, that are applicable for short tenure only 3) The switch to long duration fund - what is the effect of tax on redemption of long duration? Same as slab rate, independent of STCG or LTCG…
Hello Shail. I bought HDFC long duration bonds mid last week and was welcomed with 3 straight days of negative returns!
Even though I understand at Bonds returns ( bond price and coupon rates) at academic level. I still can’t understand the dynamics of price change on ground.
Can you pls help understand how does the debt fund returns go -ve (or +ve ) on short term. Is it the bond price fluctuations of all underneath securities? If yes do all bonds traded at any exchange to figure out what’s the return on day to day basis?
When yields go up, your long duration bond fund NAV will go down and vice versa. During the last 1 week the yields rose and thus NAV went down.
Yields rose because markets priced in rate cuts to be delayed a bit more for India. This was primarily because US rate cuts are expected to be delayed too based on the recent set of macro data released in US. India will not risk cutting rates with an aggresively growing economy if US isn’t cutting rates.
As I said before some portion of rate cut expectations are already priced in, the last time I back-calculated, the markets were pricing in rate cuts to begin in august this year. I havent calculated this month yet, but based on the yields rising the first rate cut expectations should have been pushed further down by a month or two.
Daily price change of bonds should not be a concern, since the core reason for holding a long duration fund is rate cuts. You will only realize true price appreciation once rate cuts are imminent or they materialize.
Today, I have started investing in Long Term funds. Started with first trench of investment, 4% of portfolio in SBI Long Duration Fund Direct Growth, I’m planning to move all my FD’s which is around 45% of portfolio to long term debt funds.
With FED gearing up for reducing interest rates is this the best way to play that macro news or should I get more exposure to finance business (I already have 30% of portfolio in large cap private banks).
Considering the tax obligations, I feel it would be better to put some part in dynamic bond funds, as unlike long-term bond fund one would not need to churn them based on interest rate cycle, hence reduced taxes. Is it a correct way to think?
But my understanding about tax on Debt MF is that you only pay tax when you sell your units… or the interest accrued is being taxed annually, like FDs?
In the former scenario, it is slightly beneficial to not churn frequently.
