2019 is likely to be a year of reversals

R. Sivakumar

Head – Fixed Income

Axis Mutual Fund

  • The rollercoaster ride that debt markets experienced in 2018 are a reminder to investors, distributors and fund managers to guard against complacency
  • Despite all the upheavals, debt markets outperformed equity in 2018. 2019 is likely to be a year of reversals, furthering the investment case for debt markets
  • Axis’ investment philosophy helped the team avoid the landmines of 2018 while continuing to deliver consistent performance relative to peers
  • Short end of the curve offers significant investment opportunities. Corporate bonds in the 1-3 year space look especially attractive now.

WF: 2018 has been a huge rollercoaster ride for debt markets, with event-led volatility coming as icing on an already tumultuous cake! What are some of the biggest lessons Mr. Market has taught us in 2018?

Sivakumar: 2018 has been a yoyo year in debt markets. From a clamour for rate hikes to a whisper of rate cuts, the markets have seen a large move in both directions over the course of the year. The year was also an eventful one for debt market participants. From the flip flop on policy action to the spat between the RBI & the government to the IL&FS default (pegged as India’s so-called Lehman moment) and the risk of contagion in the NBFC space, the year has been an eventful one.

In all this the market has reminded investors that complacency can be dangerous. Debt just like other market linked products needs active management and hence retail investors taking the plunge into debt markets should consider mutual funds. On a positive note, a long term trend comparison between equity and debt highlights the opportunities of debt as an asset class and investor portfolio should factor in a meaningful allocation to debt.

Despite 2018 being a year of negatives, the bond market outperformed equity markets for the year. 2019 is likely to be a year of reversals, furthering the investment case for debt markets.

WF: Is the old jingle “happy days are here again” now applicable for bond markets in 2019? What is your outlook for bond markets for 2019?

Sivakumar: We do not believe that there is a material risk of financial instability and hence the RBI is likely to continue to focus on inflation trajectory. With the current inflation trajectory and RBIs inflation projection for the year at 4%, we don't see significant moves on the repo rate front for the rest of the financial year.

As the shadow of the IL&FS saga and the NBFC liquidity crunch recede, 2019 is likely to be a better year for debt against the backdrop of lower crude and stable macros. However, the fiscal position is likely to remain an overhang given that current GST collections are far lower than budgeted expectations and non-tax revenue growth continues to remain tepid.

Currently, the short end of the curve offers significant opportunities from investment perspective as markets are pricing in more than 1 hike till March 2019. Corporate bonds in the 1-3-year space currently trade at a premium of 200 bps over the operative rate which we believe offers material opportunities and hence prefer this space.

WF: How has your strategy evolved through the gyrations of 2018 and what is your overarching strategy on duration and credit as we begin 2019?

Sivakumar: At Axis MF, investment process has played a critical role across funds and market periods. We follow a two pronged process that consists of evaluating interest rate risk and credit risk. As active debt fund managers our investment style is geared to exploit opportunities reflecting our core investment ideas at all times. This has not changed even in times of uncertainty and we have been rewarded for our conviction.

On the credit front we have remained cautious while focusing on building a liquid portfolio so as to minimize the risk while capturing opportunities available from time to time. Our investment strategy and focus have been instrumental in avoiding ‘landmines’ in an environment of market uncertainty like we saw in 2018. Despite market events our funds have remained consistent performers relative to peers across the year.

We see 2019 as a year of opportunities across the credit spectrum especially at the shorter end of the curve. While our investment process keeps us grounded to our core philosophy, selective credit picking with effective emphasis on covenants will be the name of the game going forward.

WF: Many experts were of the view that duration funds are not for retail investors. After IL&FS and its impact on credit risk funds, some questions are being raised about suitability of credit risk funds too, for retail investors. What is your view on these concerns?

Sivakumar: The year gone by has not been kind to duration funds given the current macro-economic environment and concerns over a wide variety of geo-political and external events affecting long bonds. The current fall in longer dated G-Sec’s has been led by RBI’s OMO’s and the market pricing in rate cuts in the foreseeable future.

Given the current inflation environment and the possibility of retracement on account of low base effects and food inflation, rate cuts may remain elusive in the near term, in our opinion. Fiscal concerns continue to remain elevated given the likely shortfall in GST collections and welfare initiatives initiated by the government in the build up to national elections. We believe the culmination of these factors will likely limit opportunities in the long bonds space.

We believe rates will remain stable in the medium term and hence reiterate our positive stance on the shorter end of the curve. Currently, the curve offers significant opportunities from an investment perspective as credit spreads and carry remains attractive. Corporate bonds in the 1-3-year space across the AAA and AA spectrum offer significant risk reward opportunities and thus form a significant part of our portfolios today.

Retail investors have been caught unawares, as they focused on higher returns without factoring the element of risk. The element of complacency discussed earlier has played a major factor this year given all that has happened. Selecting the right fund on the basis of risk appetite is of paramount essence especially in credit fund. The role of the distributor is imperative in advising clients in such circumstances.

WF: For retail investors, what debt product categories would you recommend distributors to focus on and how ideally should these be positioned?

Sivakumar: As mentioned above, currently, the short end of the curve offers significant opportunities from investment perspective as markets are pricing in more than 1 hike till March 2019. Corporate bonds in the 1-3-year space currently trade at a premium which we believe offers material opportunities and hence prefer this space. Short term debt products across low duration, corporate bond funds, and credit funds are ideal mutual fund categories for investors.


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