GILT FUNDS - HOW DID THEY PERFORM IN 2008

The year that has passed may have been a painful one for investors who didn’t follow any specific asset allocation pattern. If you moved a major portion of your investments into equity funds, in the chase for returns, your investment value would have been severely eroded. It may take a few years for your portfolio to recoup its original value.

But if you are a savvy investor and had spread your investments between debt and equity options, the damage to your wealth would have been only moderate. Over the past one year, diversified equity funds have fallen by between 25 and 80 per cent. But, investors who did invest in debt options such as Gilt and Income funds would have harvested a good return.

The one-year average return for gilt funds stood at 18 per cent. Within the category, the divergence between best and the worst funds was huge, at 42.2 per cent and minus 7.7 per cent. Similarly, income funds, on an average, generated 12.4 per cent. The best fund generated a return of 29.6 per cent and the worst lost 15.6 per cent. But the returns on the debt schemes, across the board, have surged in the past quarter on the back of a series of cuts in interest rates, steep fall in inflation numbers, which led to lower rate expectations.

However, returns of the order of the past quarter may not be sustained next year, as market rates already factor in further rate cuts. However, with the interest rate environment turning more benign, a 9-10 per cent return may not be difficult for the next 12-18 months. The average annualised return from debt funds over a five-year period is 6 per cent.

Equity funds: Diversified funds are usually considered to be safer than theme funds in a falling market and that’s borne out by the returns on infrastructure or realty theme funds in the 2008 market fall.

But which sector you invested in, would have determined returns. While bellwether indices BSE Sensex and Nifty have shed over 50 per cent, sector funds focussed on pharma and FMCG contained losses better than the diversified funds.

In the large cap space, funds that held stocks from banking, IT, petroleum and telecom and those that moved to cash in the early part of the correction were the ones that contained losses well. Those that had high exposure to capital goods — power, metals, construction and realty — were the worst sufferers.

The most vulnerable mid and small cap funds went down along with infrastructure. The unexpected bout of correction in October caused extensive damage to equity fund returns, leaving about a third of the NAVs below Rs 10.

Gilt Funds: Gilt funds had a relatively lacklustre year until September but then went on to top the charts. Gilt funds predominantly invest in sovereign securities, offering liquidity along with safety. Gilt funds can be categorised as long-term and short-term funds.

Long-term funds reaped greater gains from falling rates in the last quarter. Out of the 87 gilt funds, leaving out the recent launches, only three schemes failed to register positive returns this year. One-fifth of the funds generated a single-digit return and all the rest beat the average return of 18 per cent.

Gilt funds went through a similar phase during 2000-2003 when interest rates were heading steadily southward. This was followed by the period 2004-2008 (first half), when returns slumped to low single digits or to negative territory. That’s a lesson that gilt funds are only for investors who have the risk appetite to take a call on the interest rate cycle.

Income Funds: Income funds or debt funds too closed the year on a bright note, with an average return of 12.4 per cent for the year. These invest both in short- and long-term debt securities of the government and corporate bonds. Government securities provide safety and liquidity, while corporate securities are held to earn better yields.

The risk profile of the income funds is relatively higher compared to gilt funds, given the prospect of credit risk. The funds holding securities of higher average maturity (especially in the last few months) generated better returns in 2008 compared to those with a short-term bias.