Bonds markets have been highly volatility in the last few months. The returns of debt funds across categories have suffered. Overnight funds and liquid funds, which delivered average returns of 6.97 per cent and 6.46 per cent in 2018 and 2019 respectively, offered meager returns of around 3.8 per cent in 2020. Even worse, in the last one year, these categories have delivered around 3 per cent returns on an average. In a scenario when bank savings account offer 4 per cent returns, does it make sense to move your money out of a savings account to liquid and overnight category of funds to keep your contingency funds of money for immediate use?
RBI's measures to infuse excess liquidity conditions by maintaining an accommodative policy stance during last one year has resulted in reduced returns of these fund categories. "We had a long easing cycle from 2018 till mid of 2020 and that gain has already got captured now. What we see now is that macro backdrop is changing. Inflation is gaining some momentum. Growth recovery has been better than what was anticipated earlier and policy rates are already at decade low," says Pankaj Pathak, fund manager-fixed income, Quantum Mutual Fund.
The benchmark 10-year G-sec bond yields which were at record high levels of 8.1 per cent till September 2018, started to fall to come down to the levels of 5.8 per cent in around November 2020. And from thereon, we have seen the yield curve taking a u-turn to move up to the current levels of around 6.1 to 6.2 per cent.
Bond yields and prices move in opposite directions. The NAV of the debt mutual fund schemes fall when the yields rise. The rising yields will have an adverse impact on debt schemes with a higher duration. Fund managers advise investors to stick to short duration schemes for now.
"There is very high uncertainty in the fixed income market. It's better to be conservative if you don't have very high holding period and focus on very low liquid kind of categories," says Pathak.
Comparing to the bank savings account which offers 4 per cent rate of interest, mutual fund experts believe these low returns in liquid and overnight funds will not sustain for long. With the return of economic growth, they believe, the returns of overnight funds and liquid funds will get back to their usual normal range.
"As andar bahar gamen economy begins to show strong growth and excess liquidity conditions normalise going forward, overnight and liquid funds returns will also gradually go back to their normal range of 5-6 per cent," says Abhinav Angirish, Founder, Investonline.in.
Liquid and overnight funds are on an average safer and tax efficient alternatives as compared to savings bank over longer terms. Raghvendra Nath, MD, Ladderup Wealth Management, says, "The motive of parking money shouldn't be only looked from the point of returns but should be looked at from the point of diversification."
According to Pankaj Pathak, there is a very high chance of interest rates moving higher in the next one to two years. And if that happens, we will see accruals rising which will benefit short term and liquid funds.
"Moreover, for a person having an investment horizon of at least 3 years, these funds also offer better post-tax returns than saving bank accounts," says Abhinav Angirish.
Interest on a savings account in excess of Rs 10,000 per year (deduction under Section 80TTA) is taxable as per the tax slab of an investor. Whereas, long term capital gains on investments held for over 36 months are taxed at 20 per cent after providing for indexation. Indexation is a process that allows to inflate the purchase price of the asset to take into account the impact of inflation.
Also, as per natural human gravitation, there is a tendency to splurge the money while it is readily available in the bank, adds Raghavendra Nath. "It generally does not happen if the funds are parked in an instrument."