Low duration funds are debt funds that invest in short-term debt securities, such that the duration of the fund portfolio is between 6 to 12 months. As compared to overnight or liquid funds, low duration funds hold assets of longer maturity and maybe lower credit quality; therefore, they have a relatively higher interest rate risk and credit risk. Hence, their returns too are higher. Nippon India Low Duration has a 1-year return of 7.85%, and it is 8.68% for ICICI Prudential Savings Fund.
The investment strategy focuses mainly on fundamental research. The manager’s overall emphasis is on building the portfolio with safety and liquidity, which is achieved through a disciplined risk-controlled investment process.
The investment universe of about 250 companies is tracked by the experienced research analysts, while the investment team focuses on the business, management, financial health, and promoter group. The team also uses the analysis of sell-side research and credit rating agencies to form a view on companies' creditworthiness.
The call on duration is taken by studying the macroeconomic scenario. The team incorporates the views of key external economists and an in-house economist on factors such as GDP growth, inflation, fiscal deficits, and trends in government borrowing that are important for managing this fund.
For each fund, the AMC has a predefined template for the duration and credit risk, and these ranges become the boundaries within which a fund manager operates. The exposure limits are decided by head of fixed income Amit Tripathi or the investment committee, depending on inputs provided by the credit research team on the type of issuer, and the tenure of the issue. Periodic reviews are done based on the quality of the credit to determine if a change in position is required. We believe the recent change in ownership of the fund house will result in better processes.
The fund is positioned within the defined template that determines the extent of duration and credit risk in the portfolio. Within these constraints, the manager tries to maximise the portfolio yield while maintaining high liquidity.
To maintain liquidity in the portfolio, the fund invests 40%-50% assets in Public Sector Undertaking corporate bonds and CDs. Anju Chhajer invests a major part of the portfolio in nine-month below maturity papers, while 15%-30% gets invested in high-yielding nine- to 18-month assets having attractive yields along with roll-down benefits. She avoids taking exposure in government securities but intermittently takes a marginal exposure with a cap of two years' maturity when rates are attractive. In terms of credit profile, the credits/structures are well-researched for yield enhancement. The manager historically has maintained 80% exposure in AAA rated assets with the balance in below AAA rated assets. Chhajer typically avoids investing in bonds rated lower than AA-. Similarly, she avoids investing in papers whose short-term ratings are less than A1+. At times she goes below AA- rated papers that have strong management teams with proven track records, strong financial strength of the promoter group, and good corporate governance standards.
The fund employs an investment process that's focused on safety, liquidity, and returns. The managers seek to add value through security selection rather than making big adjustments to the fund's duration. They begin the process by combining both top-down macroeconomic analyses of the interest rate and yield curve, as well as bottom-up credit research focusing on undervalued securities and sectors. The investment committee approves the coverage list with a strong focus on company management and its track record, the financial strength of the promoter group, and corporate governance standards. With the recent credit crisis, the fund house is more cognizant about the overall leverage of the promoter and will lend money only with a high share cover.
Meetings with management are followed by quantitative analysis where the focus is to get a measure of the company's cash flow and relevant ratios--leverage, coverage, and solvency. The team also leverages the expertise of its equity counterparts. For this fund, the managers discuss quarterly strategies based on a combination of factors such as the macroeconomic scenario, liquidity conditions, spreads, and short-term influencing factors such as overnight rates, inflation, and money supply among others. This in turn determines the fund's asset-allocation and maturity profile. At its core, the strategy is straightforward and has been executed well.
The portfolio managers continue to run the strategy with low duration. They focus on higher accrual income while keeping a 75%-80% exposure in AAA rated securities. The portfolio duration is maintained within six to 12 months, but the managers don't restrict themselves looking for tactical opportunities that can benefit from likely yield-curve movement. Because of the cautious view on the fixed-income market, the managers have reduced exposure to government securities and shifted the allocation to cash and money market instruments.
The portfolio managers do not compromise with the portfolio's liquidity. To enhance liquidity, the managers use a ladder approach, picking securities with varying maturities, giving the flexibility to alter duration based on the interest-rate view.
The fund also intermediately invests in state development loans, given their attractive spreads versus central government securities. They maintain a diversified portfolio, with issue-specific bets below 10% and the top 10 securities accounting for roughly 25-30% of assets, which is below the norm. The managers invest in sub-AAA-rated securities, but largely those in which they have a strong comfort with company management such as Bharti Telecom.
© 2020 Morningstar. All rights reserved. The Morningstar name is a registered trademark of Morningstar, Inc. in India and other jurisdictions. Research on securities, referred to for the purpose of this document as “Investment Research”, is issued by Morningstar Investment Adviser India Private Limited, which is registered with SEBI as an Investment Adviser (Registration number INA000001357), providing investment advice and research, and as a Portfolio Manager (Registration number INP000006156). For the complete disclaimers, click here.
