Of the top five schemes that invest only in government securities (gilt), Edelweiss Government Securities Fund (EGSF) leads the list for one-year returns. It’s also the smallest of the lot with a size of just under Rs 100 crore. The scheme recorded 5.76 percent returns over this period, a good couple of percentage points ahead of the next fund in the list. If you are keen to make fresh investments based just on its past performance, it may not be such a good idea. Here’s why.
Getting the COVID-19 call right
EGSF managed to get the timing of interest rate cuts right, all through last year.
In June 2020 the scheme’s modified duration (a measure of a scheme’s interest rate sensitivity) was kept at 4.89 years, which was subsequently raised to 10.54 years. The higher the modified duration, the greater the scheme’s sensitivity to interest rates. If interest rates fall, schemes with higher modified duration gain the most. And that is exactly what happened.
Last year, the Reserve Bank of India reduced interest rates. When fund managers sensed that interest rates had been cut enough and the scheme benefitted as well, they sold the long-term securities and gradually cut the scheme’s modified duration. By the end of February 2021, the fund’s modified duration was at 0.9 years.
EGSF is managed by Dhawal Dalal and Gautam Kaul. There is no exit load on the investments made in this scheme. The regular and direct plans have expense ratios of 1.32 percent and 0.57 percent, respectively. The scheme has given 10.32 percent and 8.42 percent returns over three and five-year periods.
Government securities are comparatively more liquid than corporate bonds. A small corpus means that the fund holds a highly concentrated portfolio at times. For instance, as per its latest portfolio, it has only three securities. That doesn’t bother the fund managers. “We mostly got our directional views on expected yield movements right. Concentrated positions, ability to book gains at the right time and wait for another investment opportunity further amplified the scheme’s long-term track record,” says Dhawal Dalal, Chief Investment Officer- Fixed Income, Edelweiss Asset Management.
The scheme has invested around 70 percent of its assets in treasury bills and TREPS. Only 30 percent was invested in long bonds of various tenures. ESGF’s modified duration and yield to maturity stand at 2.86 years and 4.33 percent.
Earlier, ESGF increased the modified duration of the scheme, again, to 8.16 years by end of March 2021. In other words, it bought long-dated securities. Why? Back then, the 10-year benchmark yield had moved up. Long-term bond yields too had risen, though not backed by the fundamentals. Dalal says that move offered a good entry point to long-dated government bonds. “Inflation was not a concern then and credit demand was weak. Economy was opening up gradually, pandemic threat was receding and tax collections were improving. We were pleasantly surprised with creditable Union Budget and government’s conservative revenue projections,” says Dalal.
The fund managers were proved right and yields came down gradually. The scheme outperformed its peers yet again. The duration of the scheme has been brought down since then and the fund managers are now waiting for the next opportunity.
Can it continue its good run?
Although Dalal expects the RBI to support economic growth, he expects interest rates to rise only in CY22.
In the meantime, those looking to invest in this scheme should not just go by its past returns. Rupesh Bhansali, Head-Mutual Funds, GEPL Capital says, “The fund manager has been adjusting the duration of the scheme as per his view on movement in yields. The success of the scheme also depends on his ability to smoothly shift between short duration and long duration bonds.”
Debt schemes with larger corpuses are preferable. With a small size, any call going wrong can severely hurt returns.
“Its one-year performance shows that the managers got the duration calls right. However, investors need to understand the risk of fund manager calls and market movement not always playing out as expected,” says Joydeep Sen, Corporate Trainer- Debt. Looking at the range of durations of the scheme and portfolio construct, investors should have a long investment horizon of, say, around ten years, to safely invest in this scheme, he adds.
Your fixed-income allocation should be geared mostly towards safety, and the core of it must be invested in shorter duration funds.