SIP on gilt funds can be a wonderful idea

SIPs can work surprisingly well in the case of gilt funds. Here are five points to keep in mind.

Sep 29, 2020 07:09 IST India Infoline News Service

SIP on equity funds are quite popular and have been driving flows into equity funds. One question is, whether investors can design SIPs on gilt funds too. Remember, systematic investment plan is about rupee cost averaging. That means, it will work wherever there is volatility in prices and that applies to gilt funds too?

Best performing gilt funds in India

The table captures the best gilt funds indexed on 5-year returns. For the purpose of pragmatism, we have only considered the Regular Plan in the Growth Option.
Fund Name 1-Year Returns 3-Year Returns 5-Year Returns
Nippon India Gilt Fund 10.955% 9.024% 9.912%
Birla Sun Life G-Sec Fund 10.775% 8.264% 9.723%
IDFC G-Sec Fund 13.179% 9.550% 9.662%
SBI Magnum Gilt Fund 11.274% 8.432% 9.469%
DSP G-Sec Fund 12.395% 9.188% 9.444%
Data Source: Morningstar (NAV as on 21 Sep)

These are the best performing funds assuming you invest a lump-sum amount. To understand if SIP on gilt funds would really work, let us also look at these funds from a SIP perspective to see if there is any advantage that investors can gain.
Fund Name
(Monthly SIP)
1-Year SIP Returns 3-Year SIP Returns 5-Year SIP Returns
Nippon India Gilt Fund 10.001% 11.510% 10.170%
Birla Sun Life G-Sec Fund 10.481% 11.101% 9.801%
IDFC G-Sec Fund 12.381% 12.810% 10.641%
SBI Magnum Gilt Fund 10.120% 11.330% 9.841%
DSP G-Sec Fund 11.701% 12.231% 10.151%
Data Source: Morningstar (NAV as on 21 Sep)

Some interesting points emerge from the above comparison. Over a 1-year period, SIPs on gilt funds did worse than a lump-sum investment. That could be a case of timing of the investment but the limited data points for a SIP in 1 year also makes a difference.

The advantage of SIP on gilt funds becomes obvious when you consider 3-year and 5-year time frames. Over 5 years, the SIP advantage ranges from 20 bps to 100 bps. However, the real benefit is seen over a 3-year period when the SIP advantage ranges between 250 bps to 300 bps as it made the best of volatile interest rates during the 2018-2019 periods.

SIPs mitigate the risks in gilt funds

Most investors are happy escaping default risk in gilt funds. However, there are other risks too. For example, interest rate risk is the biggest risk that gilt funds run. If the rates go up, as we saw in 2018, returns on lump-sum investments can be impacted due to fall in bond prices. After all, gilts are most vulnerable to interest rate risk.

Then there is duration-matching risk. When you invest a fixed sum each month you have a better chance of tweaking your duration to match external liabilities. Over a longer period, SIPs on gilt funds not only enhances returns but also mitigate risks improving risk-adjusted returns for the investors.

Can I anticipate rates and invest lump-sum in gilt funds?

That sounds good on paper but it would be naïve to believe this is everybody’s cup of tea. This is tactical investing and the best experts often get their view on interest rates wrong. In mid-2018, the general consensus was about status quo on rates but the RBI went ahead and hiked rates twice. In March and May 2020, nobody expected that the RBI would cut repo rates aggressively by 115 bps in 2 months.

In 2020, RBI did not want to repeat the mistakes of 2008. Analysts estimated further rate cuts after May-20 but the government has held status quo. The moral of the story is that the best of analysts struggle to predict the trajectory of interest rates. Therefore, tactical investing is easier said than done. Gilt fund SIPs are a better option over the long run.

Here is what you must know about SIPs in Gilt Funds

SIPs can work surprisingly well in the case of gilt funds. Here are five points to keep in mind.
  • SIP on gilt funds works best over 3 years and longer as there would be enough data points to play the volatility in the bond markets. That was corroborated by our comparison of SIP returns of top gilt funds.
  • Rupee-cost averaging can also work in gilt funds, albeit to a lesser extent. SIP delivers better returns than lump sum only when there are rate hikes leading to price dips.
  • Gilt fund SIPs should be part of asset class diversification strategy. Gilt funds are preferred for SIPs since they are the most sensitive to interest rate movements.
  • Get ready for the volatility in gilt fund as the interest rate scenario becomes less predictable. That makes SIP on gilt funds a defensive option.
  • For conservative investors, gilt fund SIPs suit the risk appetite of those habituated to investing in bank or post office recurring deposits.
Above all, the basic utility of SIP on gilt funds is to engender a saving culture early on. When you handle equity allocation through SIPs, it is best to use SIPs for debt allocation too.

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