The possibility of an interest rate cut by the RBI is driving investors towards gilt funds, which invest only in government securities.
The possibility of an interest rate cut by the RBI is driving investors towards gilt funds, which invest only in government securities.
This is because interest rates and bond prices have an inverse co-relationship, i.e., when interest rates decline, the prices of bonds rise and when interest rate rise, the price of a bond falls. According to industry experts, investors are betting on a rate cut by RBI, which will lead to a rise in the value of their gilt fund portfolio.
In December, 2014 when income funds and liquid funds, which are short duration funds witnessed heavy redemption to the tune of Rs 1,632 crore and Rs 50,786 crore respectively, gilt funds offered by mutual funds, which are long duration funds saw a net inflow of Rs 2,090 crore.
For instance, a 10-year government of India bond currently carries a coupon rate of around 8 per cent. If there is a 150 basis point cut in interest rates, a gilt fund with a five-year tenure can expect a capital appreciation of about 7.5 per cent.
