Debt mutual funds have pipped equity schemes for the second year in a row by a wide margin.
The average two-year debt fund return is 10.2 per cent against 3.3 per cent for equity funds. Debt fund returns this year are 12.3 per cent against 5 per cent for equity funds.
Softening bond yields as the Reserve Bank of India (RBI) switches to an easier monetary stance have benefited debt schemes while stock markets
remain becalmed after some volatility by lacklustre corporate earnings.
“Interest rates have come down substantially, which has benefitted debt funds. There is another cycle of moderation expected in 2017, which will boost returns further,” said Sujoy Das, head of fixed income at Invesco Mutual Fund.
Medium and long-term gilt funds have returned over 18 per cent and dynamic bond funds nearly 16 per cent. The majority of debt funds have posted returned in the double digits.
Most equity segments, with the exception of banking and small-caps, have failed to match these returns. Popular large-cap equity funds have posted returns below six per cent in 2016.
Demonetisation propelled returns of debt funds in November and had an opposite impact on equity funds. Debt schemes returned between 0.55 per cent and 4.82 per cent last month as benchmark stock indices fell 5 per cent due to uncertainty surrounding the move to recall 86 per cent of the currency in circulation.
“Demonetisation will lead to a lot of money coming back into the banking system. There is a possibility of much lower yields in the medium term. We recommend investors to invest in fixed income immediately as returns are expected to be front-ended,” said S Naren, chief investment officer at India's largest fund house ICICI Prudential Mutual Fund.
Nearly Rs 11 lakh crore of the Rs 16 lakh crore mutual fund assets are in the debt category. As bank deposit rates slip below seven per cent, industry executives expect more flows into debt schemes.
"We estimate food prices to remain at current levels in 2017 and this will help combat any rise in inflation. This may force the RBI to cut rates starting from December 7, 2016," Das added.