Fund managers are advising fixed income investors to allocate a significant portion of their portfolios to corporate bonds while taking a tactical position on long-tenure gilt funds. This strategy comes in response to the Reserve Bank of India's decision to maintain the repo rate at 5.25% and its neutral stance amid rising inflation forecasts due to oil price hikes driven by the West Asian conflict.
Corporate bonds are being recommended for their potential to provide accrual income, with high-rated bonds of two to four-year maturity offering a spread of 100-120 basis points over government securities (GSecs). This presents an attractive opportunity for investors, as these bonds can yield an accrual income of 7.5-7.7%, compared to the 6.5% interest from a three-year bank deposit.
The global macroeconomic environment has been under strain due to the prolonged conflict in West Asia, leading to increased crude oil and commodity prices and heightened global inflation risks. In response, the RBI is expected to adopt a data-dependent, cautious approach in the coming quarters to navigate these global headwinds and domestic challenges.
“High rated corporate bonds of two-four year maturity have a spread of 100-120 basis points over GSecs, presenting an attractive opportunity.”
Vikas Garg, head-Fixed Income, Invesco Mutual Fund
The Indian government has removed both long-term and short-term capital gains taxes, along with withholding tax on interest income for foreign portfolio investors (FPI) investing in government bonds. This move aims to attract foreign capital, stabilize the rupee, and address the balance of payments deficit, potentially leading to India's inclusion in global indices.
Fund managers suggest that with the FPI route receiving tax benefits, inflows could improve, making gilt funds an attractive tactical bet. As FPI flows into GSecs increase, the spreads could compress, offering additional opportunities for investors.
“With FPI route getting tax benefits due to taxation, inflows could improve. Investors can take a tactical bet on gilt funds.”
Sandeep Yadav, head-Fixed Income, DSP Mutual Fund
Background
The RBI's decision to maintain the repo rate comes amid a challenging global economic environment, influenced by geopolitical tensions and rising commodity prices. These factors have heightened inflation risks, prompting the RBI to adopt a cautious, data-driven approach.
Looking ahead, investors should monitor the evolving macroeconomic conditions and the RBI's policy responses. The potential for capital appreciation in long-tenure GSecs, alongside the coupon yield, could enhance overall returns, making them a compelling option for fixed income portfolios.
