Investors withdraw from debt schemes as Russia-Ukraine war casts uncertainty over bond yields

Rising crude oil prices can put pressure on India's current account deficit and push bond yields higher

There were investor withdrawals across several debt scheme categories in February, according to AMFI data, as investors were concerned over the possibility of rising bond yields.

Duration schemes—ultra-short duration, low duration, short duration, medium duration, corporate bond funds, banking and PSU debt funds—saw combined outflows of Rs 33,320 crore in February.

Industry executives attribute these redemptions to the growing uncertainty in debt markets due to the ongoing conflict between Russia and Ukraine, and the US Federal Reserve signaling a rate hike.

“There are fears that interest rates might move up based on the statements given by the US Fed. High inflation in the US, elevated oil prices, the Ukraine situation, all have contributed to nervousness in the debt markets and this might have led to redemptions,” says G Pradeepkumar, chief executive officer of Union Mutual Fund.

Roopali Prabhu, chief investment officer, Sanctum Wealth, points out that some debt schemes saw volatility in their net asset values (NAVs) in February, which didn’t go down well with investors.

“Generally, fixed-income investors have very low appetite for market-linked volatility,” she says.

Fund managers say that domestic factors are also contributing to the uncertainty.

“Last month, the government announced a huge borrowing programme in the budget, which will start from April (beginning of new financial year 2022-2023). On the other hand, rising oil prices can put pressure on India’s current account deficit,” says Marzban Irani, chief investment officer—debt, LIC Mutual Fund.

Brent crude oil prices that are hovering around $130 after US imposed ban on imports of Russian oil. This is part of its response to the ongoing Russia-Ukraine conflict.

Pankaj Pathak, fund manager, Quantum Mutual Fund, says, “If the crude oil price continues to rise, we should expect bond yields to move higher even if the easy monetary policy continues.”

Also read: Russia-Ukraine crisis further complicates matters for RBI, its MPC

The Russia-Ukraine conflict has pushed up commodity prices, which in turn can drive up inflation from current levels of 6.01 percent (CPI Inflation’s January print). And a large borrowing programme by the government can give a further push to bond yields.

“To add to this, the rumours around a possible delay of the LIC IPO (initial public offering) due to stock market volatility has raised concerns on the government meeting its disinvestment target,” Prabhu says.

The government has set a disinvestment target at Rs 65,000 crore for 2022-2023.

Investors with a long investment horizon of 8-10 years can stay put, as in the long run the interest rate cycle tends to normalise. However, investors should also keep in mind that in the next one to two years if bond yields rise as anticipated, they would find it difficult to make money in debt schemes.

Investors with a shorter time frame in mind can keep money in ultra-short duration funds, says Vikram Dalal, managing director of Synergee Capital.

“Investors can use these funds to preserve their capital for the time being. The underlying securities in these schemes have less than one-year maturity. As interest rates start to rise, investors will get fresh opportunities to invest in debt and equity schemes,” he adds.

Short-term investors can also look at liquid and overnight schemes for the time being to park their capital. Shorter duration portfolios tend to be less sensitive to interest rate and bond yield movements.