Why the mutual fund industry is betting on duration funds
₹1,000, a duration of 5 years, and an interest rate of 5%. If you buy this bond for ₹1,000 and RBI cuts its interest rates by 1%, the bond’s price would increase by about 5% (1% change in interest rates multiplied by the 5-year duration). Consequently, the price of the bond would rise to ₹1,050.
In effect, longer-duration bonds provide higher returns to investors in a declining interest rate environment. Also read | What mutual fund SIPs have in common with watching cricket in a stadium The mutual fund industry finds duration funds particularly attractive now due to anticipated interest rate cuts by RBI. If interest rates decline, investing in bonds with longer durations can lead to capital gains.
Other key factors that have an impact on duration funds are inflation, the external environment, and global interest cycles. According to mutual fund industry experts, India’s current inflation trajectory is favourable due to a combination of factors that indicate a stable and controlled economic environment due to stabilisation of commodity prices, effective interest rate measures to control money supply, and better-than-expected revenue collections. Fluctuations in food prices, however, remain a major concern.
If the volatility in food prices eases, RBI will be more assured that inflation is heading towards its target of 4%," said Suyash Choudhary, head-fixed income, Bandhan AMC. “Core inflation is already quite low, and it is only the food price volatility that is standing in the way of monetary easing," he said. India’s improving fiscal dynamics indicate the government is effectively managing its finances.
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