Advisor Speak 17th July 2013
What should we do with income funds now?
Sunil Jhaveri, MSJ Capital & Corporate Services, Gurgaon


RBI's surprise move on 15th July evening and the sharp market response on 16th didn't spare any segment of debt funds : we saw negative 1 day returns across the board, with varying degrees of impact, based on type of the fund. 16th evening witnessed a flurry of conference calls where debt fund managers tried to provide a perspective and outlook to anxious distributors. The key question that's bothering many distributors and advisors now is what to tell their clients to do now with their debt fund holdings? Wealth Forum turned to Mr. Bond - Sunil Jhaveri - a leading expert on fixed income markets and an advisor to many corporate treasuries, to give us his independent perspective on what to tell clients to do with their bond fund holdings. We are grateful to Sunil for readily agreeing to pen this article for the benefit of the wider distribution fraternity. Read on as Sunil takes us down memory lane to show us why staying calm and thinking logically is what advisors really need to do now.


I am not going to write about whether duration schemes in such uncertain markets was the right call given by the industry or not. When rupee turned distinctly bearish vs $; natural consequence would have been higher CAD, higher inflation, lower liquidity, naturally higher interest rates or no further action by RBI on rate cuts, etc & under such circumstances, duration schemes should have been avoided at all costs in clients' portfolios. Those of you who have been following my blog will vouch for the fact that MSJ Capital has not given any duration calls over past 2-3 years ( including when industry spoke about it since October 2012 & more recently post January 2013).

There is much debate, con calls, and rumours floating in the markets post RBI action of increasing bank rate & MSF rate & restricting funds they will accept under LAF to 1% of deposit which according market estimates is Rs.75000 crs. This was a measure taken by RBI to reduce liquidity and bring sanity back to the FOREX markets in relation to $ & INR. Immediate knee jerk reaction was all benchmark rates jumped up from 50-75 bps in a single day; thereby creating huge losses in the bond markets. Natural reaction is to panic and start redeeming out of the duration schemes (which had unfortunately become the theme of the industry of late).

Let me draw two parallels to the situation we are in today:

  1. 2008 Lehman Brother Crisis &

  2. Industry call of duration/income schemes in January 2009

2008 Lehman Brothers Crisis and it's impact on Indian Shores:

When this global crisis erupted, even Indian markets (both debt & equity) reacted negatively ( whereas there was no reason for our markets to panic to that extent). What could have passed as a passing storm; actually got converted into real storm affecting all our markets - only based on the way we as advisors and as investors reacted in panic. Advisors started asking their investors to pull out their funds from Mutual Fund Schemes and stay in cash. This created huge pressures of redemption & Fund Managers had to sell the best of portfolios ( even in liquid schemes) at a loss and start posting huge negative returns in liquid schemes. Due to a vicious cycle we got ourselves stuck in, further redemption pressures made it difficult for the Fund Managers to liquidate their portfolios in an illiquid market ( created by the market participants) and postpone giving out redemption proceeds. This further fuelled speculation on how our MF industry is going to collapse, etc.

However, the irony was that after pulling out these funds (which were invested by MFs in CDs of banks- especially in liquid fund portfolios); the same were invested in FDs of the same banks. So in short what the industry did collectively was to shoot themselves in the foot and advise the clients to invest in FDs; thereby eroding their principal value ( even in liquid schemes) & creating a huge panic in the system.

If at that time if advisors would have thought calmly & logically; they would have realised the foolish steps which they undertook on behalf of their investors & how the same money got invested in the same banking industry. If collectively all of us would have stayed calm for some time, let some time go by for the storm to pass then ( though on MTM & notional basis you would have had to seen some erosion in your investments); at least the same would not have been converted into actual irrecoverable loss.

2008-2009 Income Fund Call:

In November 2008, 10 year benchmark was at 7.50%. I had given an Income Fund call to my investors based on certain analysis and my perception of debt market journey going forward. I had expected to earn higher double digit figure returns over 6-9 month period.

However, in a span of 20 days, by December 2008 10 year benchmark went down to 5.50% levels. This gave rise to almost 25% absolute returns in our client portfolios. I immediately gave a very aggressive disinvestment call to all our clients.

However, as usual industry rises only when they see the point to point returns and started giving very aggressive investment calls in Income schemes in January 2009. In fact I remember that one of the leading magazines which tracks MFs announced with headlines saying Year of Income Schemes.

Govt announced additional borrowing programme, 3G auction was postponed, rate cut which was expected did not materialise , inflation started galloping & all this resulted in income schemes to start posting huge negative returns. 10 year benchmark breached 7% from a low of 5% it touched in January 2009 in a span of few months.

Again the industry panicked at this point in time as well. I had once again written a similar article at that time ( once in April & once more in October 2009) wherein I had recommended to stay calm & think logically based on some back testing I had done at that time. Results of my back testing gave me the comfort to advise investors to a) hold onto their Income Scheme positions for at least 1 year from the date of their investment & 2) add on to their investments at higher benchmark levels of 7% & above to create a better average and exit at an opportune time.

Investment in Income schemes is always recommended for 1 year & above. Then the logic should be to at least stay invested for that period for you to get the expected returns. Duration schemes will always have volatility attached to it & hence an investor needs to ride this volatility. If one panics & exits in between, then notional loss will be converted into actual loss and continuous redemption pressure by the industry will further worsen the situation. Hence, as an advisor, we are responsible to educate our investors on why they should hold onto their investments in today's market conditions, ride the volatility & if they are adventurous enough then add on to their positions at such high benchmark yields.

Only way to convince your clients is with one year rolling returns analysis (which I had done in April & October 2009) & showcased how on 1 year rolling returns basis of various schemes since their inception how Income schemes had never generated negative returns (except for the year 2003-2004 when Income Schemes generated marginal positive to marginal negative returns as in that year benchmark yields had gone up from 5% to 7%) & the average one year rolling returns of most of the schemes was higher single digit to lower double digit returns.

Based on this analysis, most of the investors who were stuck in Income schemes ( when they invested based on industry call in January 2009) got out with a very positive almost double digit returns over one year from January 2009. However, those who panicked and redeemed at a loss, could not recover their entire loss even through accruals of say liquid schemes from the date of their redemptions.

Hence, both the above events gives me comfort once more to advise our esteemed fellow advisors to educate their investors on pitfalls of redeeming now v/s hold and add strategy going forward. If one does not learn from their own mistakes then even God cannot help them. I have just pointed out 2 such occasions in the recent past where panic has actually harmed the investors, advisors' image & industry image as a whole.

Please stay calm, think logically, sit back, let the storm pass, solutions will become clearer


Source :- As on 17 Jul 2013

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