Debt and Hybrid Funds performance for October 2023

Why are Hybrid Funds coming Centrestage

In the last few quarters, there has been a sudden surge of interest in hybrid funds. Remember, hybrids offer variety and allocation discretion to the investors. Quite often, the higher risk investors have the leeway to even opt for more discretion. But, there is also the diversification argument. Investors are now learning that there is only so much you can diversify as long as you stay invested in just one class of assets. The answer is to diversify on a broader and wider scale. That is where, hybrid funds, with this ability to combine equity, debt, gold, REITS, and derivatives bring a unique diversification advantage. Thanks to the presence of derivatives, fund manager can tweak the asset mix of hybrid funds in such a way that they give the flavour of hybrid funds even while retailing the status of an equity fund for taxation purposes. This shift is also evident in the fund flows into hybrid funds.

Bond yields and Inflation story

The challenges and headwinds in the equity market are already well documented. What is not so well documented is the flux in the bond markets. There have been several risks and the latest is the spike in bond yields in the US. This is putting pressure on the Indian bonds yields which edged up this week to nearly 7.4%. Higher yields will mean capital losses for bond holders. One reason, the Indian bond yields did not rally is the liquidity surplus in the system. The bond yields are also under pressure for another reason. For too long, the longer term bonds are earning yields at par with shorter tenure bonds, which is an anomalous situation. This is also driving up yields and such cases are evident in India also. For India, inflation (a key determinant of bond yields) is not just impacted by local factors but a lot of inflation also gets imported amidst a sharp spike in the US dollar index (DXY). Clearly, bond fund returns have been subdued, although the impact in October 2023 was very limited.

In this segment, we will look at the top performers within the gamut of debt funds and hybrid funds. 

Debt Funds: how they performed in October 2023?

Debt funds or Income Funds have given moderate returns although funds at the short end of the yield curve have performed extremely well. In all the cases, only 3 top funds have been ranked in each category and in all such cases, the focus is on returns across 1 year, 3-years and 5-years; but rankings are only on 5-year returns. To reduce the impact of costs, the direct plans of funds have been considered.

Best performing Government Securities Funds (Gilt Funds) 

Best performing Corporate Bond Funds

Best performing Credit Risk Funds

Best performing Liquid Funds

Top performing Direct Plans (Growth Option) on 5-year returns (as on 31st Oct-23):

What is the quick takeaway from the evaluation of debt funds. In the last one year, it is the very short end liquid funds that have done very well, although the gap widens if you look at a longer term perspective. That is more because of the rising interest rate scenario.

Hybrid Funds: how they performed in October 2023?

Hybrid Funds were the big stars in terms of flows but a quick glance would tell you that even on returns, they have actually done quite well. In fact, much of the outperformance of the hybrid funds stems from a combination of volatility and greater equity exposure. In all the cases below, only 3 top funds have been ranked in each category and in all such cases, the focus is on returns across 1 year, 3-years and 5-years; but rankings are only on 5-year returns. To reduce the impact of costs, the direct plans of funds have been considered.

Best performing Balanced Funds (Aggressive Allocation)

Best performing Balanced Funds (Conservative Allocation)

Best performing Dynamic Asset Allocation Funds (BAF)

Best performing Multi-Asset Allocation Funds (MAAF)

Best performing Arbitrage Funds (Cash-Futures)

While in the above list, arbitrage funds, are short term in nature, in the other cases, the gains of hybrid funds have largely stemmed from equity 

Major takeaways from the October rankings

An interesting point emerges from the analysis of the above mutual fund rankings across the hybrid and debt categories. We have something called the repeat winner syndrome with the top 3 to top 5 performers in the various categories of debt and hybrids being completely consistent. Internally, the rankings may shift marginally, but broadly, the names are consistent. Why is this observation critical. It is good news for investors looking at past returns to select funds for the long term. Investors normally run the risk of selecting the right fund amidst a wide array of choices. Now, it becomes much simpler since investors can rely on the top performers with the confidence that these names would be consistent over time. This has larger implications for financial advisors too; who quite often struggle on the criteria for recommending funds to investors.