Now what are these GILT funds? Simply put, gilt funds are mutual funds that predominantly invest in government securities (G-Secs). Unlike conventional debt funds that invest in debt instruments across the board, gilt funds target just a given category of debt instruments i.e. G-Secs. The latter are securities issued by the Reserve Bank of India (RBI) on behalf of the Government of India. In years when stock markets perform well, everybody laps up stocks and nobody cares too much for debt funds. Debt funds tend to be liabilities in such times since they give much lower returns than equities. But in times of uncertainty and high prevailing interest rates, GILT funds start becoming performance heroes. I shall now explain why.
First, let's understand the relationship between bond prices and the interest rates. The two are inversely related. Hence a fall in interest rates, leads to a rise in bond prices. In recent months, the RBI has undertaken a series of rate hikes to remove liquidity from the system to control the rising inflation. Infact, there have been close to 10 rate hikes in past 12 months. This has been bad for bond prices. But the important thing to pick up here is that everything has a cycle. Economy experts are of the opinion that we might be nearing the end of the ‘rate hikes’ cycle. There might be probably just 1 last hike in August and thereafter a gradual rate cut cycle will start in order to fuel the economy. That would be the mega opportunity to cash in. As the interest rates go down, there will be an appreciation in prices of long-term bonds and G-Secs alike.
I have been checking out some of the historic GILT fund performance charts. There have been years where GILT funds have given returns of up to 35% in a 12 month period. Now, I would take that any day! Getting a 25% plus return through a safe debt instrument is too irresistible a proposition to ignore. What more, you needn’t have to worry about the vagaries of the stock market. You would just need to sit back and enjoy the show. This period of high return just lasts for about a 12-18 month period while interest rates are being cut. After that, the returns once again fall down to almost single digit annual returns. A little more analysis clearly showed that in all such high return periods, interest rates were being gradually cut by the RBI, thereby vindicating the theory.
The last time this kind of cycle happened was about 3 years back. Right now, interest rates are close to their peak and GILT funds once again seem to be a screaming buy. Of course, investors must understand that to make the most of their gilt fund investments, being invested for the long haul (to cover an interest rate cycle) is important. Hence, it is important to hold on for at least a 12-18 month period to reap the full benefits as interest rates would be gradually slashed in stages. You can always sell out after that period.
In my opinion, mid-August might be a good time to invest in GILT funds. So, if you think this is a good idea, now would be the time to start planning for how much to invest and setting aside the funds. Happy investing!!
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