Banking & PSU Debt Fund: Good Returns Combined with Safety

debt fund

                                                 Banking & PSU Debt Fund: Good Returns Combined with Safety

High-Quality Debt Holdings ensure that these funds do not go into a tailspin due to credit defaults.

 

Debt Fund Investors usually seek slightly better returns than bank fixed deposits for their immediate needs.  However, if this higher return comes at the cost of the safety of capital, then it makes no sense.

If you are looking for a Debt Fund to replace your Bank Deposits, here is an emerging class of debt funds that provide liquidity, carry some volatility, and can generate reasonably stable returns – Banking & PSU Debt Funds.  Recently too many bad apples have emerged among debt fundssouring the experience for investors.  Let’s understand Banking & PSU Debt Funds so that we can make more informed Investment Decision:

Banking and PSU Debt Funds are often called as the Best Alternative to Bank Deposits. These schemes mostly invest in Bank Certificates of Deposits (CD)Bonds of Public Sector Companies (PSU) and Bond of Banks.  According to the SEBI definition, the Banking & PSU Debt Funds are open-ended debt schemes predominantly investing in debt instruments of Banks, Public Sector Undertakings and Public Financial Institutions.

Safety:

Some of the prominent PSUs in Fund Portfolios are National Highways Authority of IndiaFood Corporation of IndiaRural Electrification CorpNTPCPower Finance CorpSIDBI and NABARD, among others.  Most PSUs are rated AAA or equivalent and commensurate strength as the Government ownership lends a degree of comfort about repayment.  Bonds or debentures of Banks are rated AAA depending on the tenure.

With such a High Credit Quality, Banking & PSU Funds have remained resilient even as others Debt Funds have taken hits from recent credit episodes.

Liquidity: Better than Bank FD 

Banking & PSU Debt Fund score higher over Bank Fixed Deposits in case of unexpected requirements of Funds.  Banking & PSU Debt Funds do not have EXIT LOAD, so one can withdraw Funds anytime from date of Investment without paying any penalty.  Whereas in case of Premature Withdrawal of Bank FD, a penalty of 1% is charged and interest as per the completed tenure of FD is applicable.

Tiding over Risk:

Banking and PSU Funds face risks from the interest rate movement.  In times of hardening of interest rates, they might underperform for the short-term. As in Long Term, the Interest Rates are in a downward spiral they will outperform.

These schemes are ideal for investors looking for higher returns than bank deposits, with some volatility in the short-term.  In the current market situation and the fact that Government / RBI may reduce interest rates further to boost Economy and tide over difficult times on account of CORONA-19 Pandemic, strong outperformance can be witnessed.

Summarising Investment Rationale:

Where do Banking & PSU Debt Fund invest:

  • These funds mostly invest in Bank Certificates of Deposits and debentures of Banks/ Public Sector Companies – mostly in the AAA-rated category.  The entire portfolio for most funds is, therefore, of high quality.
  • Most of them have instruments with reasonably high liquidity and low average maturity.  The Average Maturity / Modified Duration for this category is between 2 – 3 years.
  • The PSU bonds they hold are mostly liquid, medium-term debentures of companies such as REC, PFC, IRFC, NABARD and SIDBI, to name a few.

Taxation –

Any Gain arising before 3 years will be treated as Short Term Capital Gain and will be added to Income and taxed accordingly.  Any Gain arising after 3 years will be considered as Long Term Capital Gain and will also, be eligible for Indexation benefit.  Long Term Capital Gain Tax Benefit can be understood from the following deliberation:

 

Bank Fixed Deposit (Tenure 1 yr)

Banking & PSU Fund (Tenure 1 year)

Banking & PSU Fund (Tenure 3 year)

Investment Amount

1,000,000

1,000,000

1,000,000

Pre Tax Return

5.80%

8.00%

8.00%

Maturity

1,058,000

1,080,000

1,259,712

Capital Gains

58,000 (STCG)

80,000 (STCG)

1,97,212 (LTCG)

Tax Payable

17,922

24,720

39,442

Post Tax Maturity

1,040,078

1,055,280

1,220,270

Post Tax Return

4.01%

5.52%

6.86%

Note: We have considered Cost of Inflation Index (CII) for the last 3 years on Real-Time the basis for calculating Indexation.

Returns with Safety-

The instruments in which Banking & PSU Debt Funds invest generate returns in two ways:

  • One, Accrual Income arising from the coupon of the instruments held. This is typically the case with certificates of deposits (CDs) of banks.
  • Two, while the bonds and debentures held provide accrual income, there are also Capital Appreciation Opportunities in these instruments in a falling interest rate scenario, such as the one seen in the past year.

Given that PSU bonds are also reasonably liquid and well traded, Fund Managers can easily sell these bonds to gain from capital appreciation opportunities when rates fall.

Category Performance:

Data as on May 05, 2020

AUM

Portfolio YTM

Modified Duration

Returns(%)

3 Month

6 Month

1 Year

2 Years

3 Years

5 Years

Aditya Birla SL Banking & PSU Debt Fund

9774

6.58

3.43

8.97

8.19

10.78

9.22

8.10

8.60

Axis Banking & PSU Debt Fund

13089

6.50

2.10

6.79

6.85

10.29

9.33

8.50

8.37

DSP Banking & PSU Debt Fund

2269

6.23

3.26

11.04

8.74

11.30

9.46

8.05

8.31

HDFC Banking and PSU Debt Fund

4874

7.46

2.71

5.31

6.91

9.85

8.71

7.59

8.26

ICICI Pru Banking & PSU Debt Fund

7456

7.32

2.77

4.95

7.10

9.53

8.21

7.39

8.33

IDFC Banking & PSU Debt Fund

13750

6.52

2.51

8.72

8.04

11.50

10.17

8.45

8.18

Kotak Banking and PSU Debt Fund

4759

6.79

2.70

7.32

8.04

10.99

9.49

8.22

8.43

L&T Banking and PSU Debt Fund

2891

6.79

2.53

7.31

7.35

10.97

8.60

7.71

7.92

SBI Banking and PSU Fund

4559

6.60

3.00

7.74

8.17

10.58

9.04

8.12

8.15

Author: Midas Finserve

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