RBI hiked rates by 50 bps. Which debt mutual funds are your best bet?

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The Reserve Bank of India has raised the repo rate by 50 basis points (bps) in its policy review on Friday. This is the third straight hike by RBI this year. The repo rate is back to the pre-pandemic levels of 5.40%. Mutual fund advisors believe that the policy was a little more hawkish than the market factored in.

“On the basis of an assessment of the current and evolving macroeconomic situation, the Monetary Policy Committee (MPC) at its meeting today decided to increase the policy repo rate under the liquidity adjustment facility (LAF) by 50 basis points to 5.40 per cent with immediate effect. Consequently, the standing deposit facility (SDF) rate is adjusted to 5.15 per cent and the marginal standing facility (MSF) rate and the Bank Rate to 5.65 per cent,” the RBI governor said.

The benchmark bond yield has moved up 15 bps after the policy was announced. Fund managers say that a 50-bps hike means that RBI still wants to be cautious for some time.

“In the last 15 days, the market was expecting dovish guidance, not rate action because the global commodity prices had softened and crude oil prices had fallen. The 50 bps hike clearly says that it is too early to let the guard down. The bond yields have also gone up today. Inflation also continues to be a problem. Broadly, the policy was on expected lines, but the overtone that the market was expecting to be dovish wasn’t there, so that was a little disappointment,” says Mahendra Jajoo, Head-fixed income, Mirae Asset Mutual Fund.

While the RBI has not changed its GDP/inflation projections or its stance, it increased repo rates by 50 bps as CPI has been above RBI comfort level for months. RBI also wants to make sure that inflationary expectations are not entrenched. Debt fund managers do not believe that the rate cycle is in its last leg yet.

“Yields went up by 15 bps on the 10-year segment. It is difficult to predict, especially about the future. We do not feel that it is the end of the rate hiking cycle. There are strong and stubborn inflationary impulses in the form of commodity prices and wage pressures which will go away with time and aggressive hikes. Rate hikes could be spread out such that there is minimal impact on debt funds’ performance. My outlook for debt funds maturing up to 3 years is quite good, but the longer end funds could remain volatile for some time,” says Sandeep Bagla,CEO,Trust Mutual Fund.

Jajoo says that looking at the inflation, the terminal repo rate should stand somewhere at 6-6.5%.

Many debt mutual fund managers have been asking investors to stick to shorter duration funds to tide through this rate hike cycle. However, a few also recommend Dynamic bond funds for aggressive investors. Target Maturity Funds are also on the recommendation list of fund managers. “ I think target maturity funds are the best bet for investors who want to play it safe. It is a good category for the kind of market we are seeing right now,” says Mahendra Jajoo.

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