Mutual funds offer 'near-zero' credit risk debt schemes; who should invest?

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Some asset management companies have launched debt index funds with a fixed maturity date in wake of a credit risk fiasco in the last few years. Unlike traditional debt funds, these are open-ended target maturity schemes with visibility of returns and negligible credit risk. These funds will broadly invest in government securities, State Development Loans (SDLs), AAA rated PSU bonds and treasury bills. Currently, Edelweiss Mutual Fund, Nippon AMC and IDFC Mutual Fund have launched their passive debt funds.

“With all the defaults that have taken place in the last few years starting with IL&FS and DHFL, a government securities-oriented fixed maturity plan was the need of the hour to manage credit risk. A debt index fund investing in government securities and AAA rated PSUs is a very appropriate product,” says Joydeep Sen, Corporate Trainer, Author, Columnist.

What is on offer?

Edelweiss was the first one to launch a target-maturity, debt-index fund in the country – ‘Edelweiss NIFTY PSU Bond Plus SDL Index Fund – 2026.  The fund has a defined maturity date of April 30, 2026. This scheme will invest in AAA rated PSU Bonds as well as State Development Loans (SDL). Proportion of investments of AAA PSU Bonds and SDLs will be equally divided with a weight of 50 per cent each. Exposure to any single company’s bonds or loans is capped at 15% of the corpus.

Nippon India ETF Nifty SDL – 2026 Maturity would invest into SDLs representing Nifty SDL Apr 2026 Top 20 Equal Weight Index. The index invests in the top 20 states or union territories selected with a cutoff date of 31 January, 2021, based on their outstanding issuance amount maturing between May 01, 2025 and April 30, 2026. The index will mature on 30 April, 2026.

IDFC Mutual Fund has launched two Target Maturity Gilt Index Funds — IDFC Gilt 2027 Index Fund and the IDFC Gilt 2028 Index Fund. Both these schemes will invest 98 per cent of the portfolio in government securities and two per cent in treasury bills.

Why 5-7 years target maturity debt funds?

There is a lot of steepness in the G sec yield curve, in region of 6 to 9 years. All these schemes will mature around 2026 to 2028. The AMCs want to lock in yields for investors at higher rates.

“The funds are positioned with an aim to benefit from the current steep yield-curve, and we believe that 6 year and 7-year Government Securities are relatively attractive versus ultra-short tenor securities as well as corporate bonds when compared to average spreads over the last five years. This makes this launch very timely,” says Vishal Kapoor, CEO, IDFC AMC.

Hemen Bhatia, Deputy Head – ETF, Nippon Life India AMC says, “Currently, 5-year SDL yields are at elevated levels. With Nippon India ETF Nifty SDL – 2026 Maturity, investors can lock in the higher yields.”

5-year bond yields are hovering around the 5.8 per cent levels. 7-year bond yields are around 6.4 per cent.

Do these schemes carry risk?

‘Near-zero’ credit risk

Both the schemes by IDFC Mutual Fund’s will invest 100 per cent into government securities. This is the highest credit quality. “An investor cannot have a higher credit quality than this as the two schemes invest 100 per cent into sovereign,” says Sirshendu Basu, Head – Products, IDFC AMC.

“IDFC’s passive debt schemes invest purely in sovereign. They carry near to zero risk. If you go by hierarchy of securities in terms of credit risk, SDL is just one notch below government securities and then we have AAA rated PSUs. We can call these as negligible risk,” says Sen.

Till date, no AAA rated PSU has defaulted.

Interest rate risk keeps reducing

Since these schemes are longer duration schemes, they carry interest rate risk but if an investor holds the schemes till the maturity, with each passing day, the duration will keep reducing and market risk is taken care of.

What kind of returns to expect?

The returns are predictable to a great extent. These schemes will invest in the constituents of the underlying index. The passive investment strategy will ensure returns similar to the YTM of the index with some tracking error. Yield to maturity is the total anticipated return on a bond if the bond is held till maturity.

However, since these schemes are open-ended, an investor may enter or exit the scheme during the tenure of the scheme. The returns might be diluted for such investors.

Who should invest?

Ideally investors having the commensurate horizon and those who can hold till maturity may invest. “The maturity in these funds is defined. Investors with requisite horizon and who can hold till maturity may invest,” says Sen. “Investors looking to minimise the market risk may find these funds very suitable and attractive. An investor may put around 20 to 30 per cent of the debt allocation to these schemes,” he adds.

Conservative investors may have a meaningful allocation to the target maturity debt index fund. And since these are open-ended schemes, liquidity is not a concern in case an investor needs funds.

Also Read: Ask Money Today: which are the best mutual funds to invest Rs 2,000 per month?

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