Credit risk

credit risk mutual funds: some credit risk funds offer returns of 22% in one year. Should you invest?

Credit risk funds rank among the best on the performance charts. However, the category has seen exits in recent months after making a comeback in early 2020. These schemes offered an average return of 9.37% over one year, 1.37% over 3 months and 1 .02% since the beginning of the year. Mutual fund advisors have been talking about these plans lately. The question is, are these funds right for you?

Programs like UTI Credit Risk Fund have offered eye-popping returns of 22% in one year. Fund managers have a positive outlook for credit risk regimes in the near future. “As an asset class, we are positive on credit risk as balance sheets have deleveraged and corporate earnings have improved over the past few years, which is positive,” says Manish Banthia, Senior Fund Manager, ICICI Prudential AMC.

However, after attracting inflows for six months in 2020, the diets are seeing outflows in the past two months. Mutual fund advisers believe the cash outflows can be attributed to recent volatility in the debt space. “Previous entries would be on the ‘stability factor.’ This is when sentiment leveled off after 2018. Investors are also looking at YTM’s net portfolio, and how much higher it is than other debt funds.Marginal monthly inflows/outflows will continue to occur, depending on cash needs/feelings/other perceived opportunities. The point is that these schemes have a marginally lower impact of interest rate changes. Indeed, they are regularization funds and portfolio maturity is around 3-5 years,” says Joydeep Sen, corporate trainer and author.

Credit risk funds as a category fell in assets under management following the September 2018-February 2020 default cycle and the April 2020 Franklin Templeton fiasco. Debt market analysts say the credit scenario subsequently improved. There were no major new defaults, at least in the mutual fund space. Although the interest rate cycle has no direct impact on these funds, they are affected by the volatility of the bond market.

“Even though spreads have compressed, given the current market situation, from now on, accrued income could be an important component of the return profile. This is due to the high spread premium prevailing between assets and AAA and money market instruments. Going forward, the capital appreciation strategy may take a back seat due to limited rate cuts. Investors with a medium to long-term investment horizon may consider invest in credit risk funds,” says Manish Banthia.

Joydeep Sen says investors can take a small exposure in their portfolio. “You can take a little exposure to increase the yield of carry a little bit compared to other debt funds. Volatility is a function of portfolio maturity / portfolio duration, usually they keep it around the 3-5 year band, so as not to make it too risky from a duration perspective. However, if your risk appetite is low, stick to liquid and overnight funds,” says Joydeep Sen.