Put no more than 20% in infrastructure funds; and the rest in more diversified funds

A better way to invest in sector funds is to use a proportional method—invest a small portion of overall portfolio in such funds

Hindustan Times
Hindustan Times

It seems that interest rates are going to fall for some time in the future. Is this a good time to buy debt funds?

—Tushar Gujral

Periods of falling interest rates are indeed good times to invest in debt funds. The reason for this is that the portfolios of debt funds are made of bonds of various maturity durations. When interest rates go down, the value of these bonds go up in proportion to their remaining duration (the longer the duration, the higher the raise in value). These gains in value of the portfolio reflect in the net asset value (NAV) of the funds, causing them to go up and thus yield returns to investors in those funds.

This past year has been a stellar year for such debt funds. The category of funds that make particular use of this strategy to deliver returns are the dynamic bond funds and gilt funds, whose category average returns for the past year have been 14% and 16%, respectively. The question now is whether similar returns will happen from these funds for this reason (falling interest rates) in the year ahead.

The answer to this question is not simple. While we are reasonably sure that we can expect a continuing falling interest rate in the upcoming year, and consequently higher than normal returns from these funds, the size of this outperformance is likely to be lower than last year.

The reason is that the market has for a large part factored in the potential rate cuts in the prevailing prices. Also, the timing of the rate cuts and their quantum would depend on economic growth numbers as well as what the US Federal Reserve does (with rate cuts), which is difficult to predict.

What does all this mean to a debt fund investor? It means that while this space has a good chance of beating fixed deposit returns over the upcoming year, an investor has to have a diversified set of debt funds. Some dynamic bond funds should find a place there, but there should also be funds that focus on an accrual strategy (not banking on interest rate cuts) such as income funds and short-term debt funds. A portfolio such as this has the potential to do well over the next 2-3 years, relative to other fixed income investment alternatives.

I have a few infrastructure funds, but of late they have not been doing well. I don’t have any immediate needs and can hold for the next 7-8 years. What should I do?

—Sukant Narula

Successful investing in cyclical sectors such as infrastructure requires investors to have one of two attributes: they should either have the acumen (and a bit of luck) to be able to predict the start and end of the period of growth in the sector, or they should have the patience to ride out multiple cycles to average out the good and bad returns to end up on the upside. A better way would be to invest in such funds using a proportional method—which means that you invest a small portion of your overall portfolio in such funds and not worry much about such cycles.

Coming to your question, considering that you are comfortable with holding on to these funds for another 7-8 years, you certainly have the virtue of patience going for you. The infrastructure funds, on an average, have returned only about 5% this past year. But the 3-year returns of these funds average 20% compounded annual growth rate (CAGR) and the 5-year returns average 14% CAGR, and these are stellar numbers. So, you can remain optimistic and hold on to these funds. However, at some point of time, it would be prudent to de-risk your portfolio by paring down your holdings to, say, 1 or 2 infrastructure funds totalling to not more than 20% of your overall portfolio, and invest the rest in diversified funds.

I want to save for my child’s college education. The goal is about 10 years away. I can invest about Rs10,000 a month. How much do you think this will earn us by the time the child is ready for college? How can I maximise this amount?

—Mandira Sharma

If you invest Rs10,000 a month for 10 years, you would have invested a total of Rs12 lakh over the period. Assuming you are investing in a portfolio that is mostly equity oriented that yields a 12% CAGR during this time, your investment will double by the end of the tenure to about Rs24 lakh, which is a substantial sum to support your child’s education. If your goal is to have a higher amount at the end, you should consider investing in a step-up SIP where you increase your investment amount by, say, Rs2,000 a month once a year.

To maximize your amount, as I indicated, you should invest in a mostly equity-oriented portfolio. For a Rs10,000 investment, you can invest equal amounts in four equity funds and a debt fund. A portfolio of ICICI Prudential Focused Blue Chip, Mirae Asset India Opportunities, UTI Equity, HDFC Mid-cap Opportunities (all equity funds), and Tata Short Term Bond fund (debt fund) would fit your needs well.

Srikanth Meenakshi is co-founder and COO, FundsIndia.com.

Queries and views at mintmoney@livemint.com

More From Livemint