RBI’s dovish shift makes long-duration debt funds a smart bet now

Long-duration funds, with modified durations typically between seven to nine years, are extremely sensitive to changes in interest rates.

Occasionally, markets present rare opportunities — and for those paying attention, the signals in India’s fixed-income space are unusually clear right now.

For over a year, the Reserve Bank of India (RBI) has held the repo rate steady at 6.5 percent, holding off from further tightening since February 2023. And while that stance hasn’t changed in the most recent April 2025 monetary policy, the language has.

The RBI’s commentary is becoming incrementally dovish, an acknowledgement that growth needs careful nurturing, even as inflation edges downward.

That is a signal for investors, especially those eyeing long-duration mutual funds.

These funds, which invest in long-term government securities and high-grade bonds, have historically struggled during rising rate cycles but turned into stellar performers when interest rates peaked and reverse.

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With inflation cooling and bond yields still elevated, the macro environment is setting the stage for this category to shine. Let us break down why now could be the moment to take a long view.

Policy direction is steady — for now. But markets are forward-looking

The RBI’s recent stance is officially ‘withdrawal of accommodation,’ but its tone has shifted from aggressive inflation control to more nuanced balancing.

And while RBI Governor Sanjay Malhotra has reiterated the need for vigilance on food inflation, the central bank’s tolerance for growth-supportive policy is evident. What does this mean for you? Bond markets move ahead of rate cuts, not after.

Even a whiff of a dovish pivot pushes yields lower, which boosts bond prices and, by extension, long-duration fund NAVs. Investors waiting for the RBI to officially begin cutting might find themselves chasing the rally rather than riding it.

Falling rates = rising fund values

There is simple math at play. Long-duration funds, with modified durations typically between seven to nine years, are extremely sensitive to changes in interest rates.

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For every 25-basis-point cut in interest rates, these funds can potentially deliver around a 2 percent gain. A 50-bps fall could translate into a 4 percent upside, and a full percentage point drop might push NAVs up by 8 percent or more.

While these are directional estimates, not guarantees, they illustrate the kind of asymmetrical reward that is on the table when policy rates begin to slide. With central banks globally pausing and preparing for a more accommodative turn, the odds of yield compression in India within the next 6–12 months are not insignificant.

Still-strong yields make the wait worthwhile

The 10-year Government Security (G-Sec) yield is hovering around 7.05 percent, while AAA-rated corporate bonds offer between 7.3 percent and 7.6 percent. These are historically attractive levels, especially when paired with softening inflation. Investing now lets you lock in these yields while positioning yourself for capital gains as the rate cycle turns.

Essentially, you are being paid well to hold, with the added bonus of upside if things move your way.

Smart rotation away from overheated equities

With the Nifty 50 trading at a trailing P/E (price-to-earnings) of around 23 times, the equity market is not cheap. And while long-term prospects remain robust, stretched valuations reduce the margin for error.

That is where long-duration debt comes in. It offers a counter-cyclical return profile — an intelligent hedge for equity-heavy portfolios. It is not about exiting equities altogether, but about balancing asset classes when valuations feel frothy.

Real returns are back on the table

For the longest time, retail debt investors have struggled with negative real returns, where inflation outpaced interest earnings. But that’s changing. Today, even a 7.2 percent yield against 5 percent inflation gives a real return of 2.2 percent before capital gains. And when you add in the potential NAV upside from falling rates—especially in long-duration funds — the spread becomes even more meaningful.

Retail-friendly access and strategy options

Once the domain of HNIs and institutional players, long-duration strategies are now retail-ready. Thanks to platforms and mutual fund houses that simplify execution, investors can now build exposure via SIPs, STPs, or even lumpsum investments, depending on their time horizon and risk appetite.

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If you are planning for a medium-term goal—say, funding higher education in 5–7 years, or preserving wealth post-retirement—long-duration funds can play a meaningful role in your portfolio.

Conclusion

You do not have to predict the RBI’s exact date for a rate cut. Bond markets are anticipatory. The opportunity lies in positioning ahead of the curve, before the rate-cut rally begins in earnest. If you enter late, you miss a large chunk of the gains. As India’s macro signals stabilise, inflation edges under control, and monetary policy shifts into a more neutral gear, long-duration funds are emerging as one of the most mispriced opportunities in fixed income. In a world where clarity is rare, this moment stands out.

The writer is co-founder of MIRA Money

Disclaimer: The views expressed by experts on Moneycontrol are their own and not those of the website or its management. Moneycontrol advises users to check with certified experts before taking any investment decisions.