Short-term Gilt Funds: Superior Returns

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: The best way to describe short-term gilt funds is simple: no credit risks and low susceptibility to interest rate changes. Short-maturity government securities (gilts) and treasury bills (T-bills) comprise this category’s asset basket. As debt markets have been volatile, short-term gilt funds have been much less-affected than their longer-term debt peers. Although this category has gained just 2.22 per cent year-to-date through April 17, 2003, it has done much better than its long-term peers as well as income funds. An average medium-to-long-term gilt fund gained 1.75 per cent while an average income fund was up 1.30 per cent.

If we compare the performance of the two categories over one-month and three-month periods, the results that thrown up are quite varied. Over one month-ended April 17, 2003, the medium-to-long-term gilt funds topped the charts with a 3.76 per cent gain while short-term gilt funds were up a mere 1.86 per cent. Over the three-month period, the latter scored 1.69 per cent while medium-to-long term gilt funds turned in a 0.54 per cent return. However, over the one-year period, longer-tenure gilt funds have given best returns among all fund categories.

The reasons for short-term gilt funds’ outperformance are not really that tough to find. These funds invest in government securities (gilts) with short-maturity profile and, hence, a change in interest rates has little impact on the market price of these instruments. In contrast, longer-maturity gilts respond more actively to interest rate changes. And in 2003 so far, medium-to-long maturity gilts have witnessed high volatility.

Consider this: the yield on the most actively-traded 10-year gilt (GOI 2013, 9.81 per cent), has seen the most fluctuation-between 5.85 per cent and 6.76 per cent. On the other hand, the yield on short-maturity gilt (GOI 2005 11.19 per cent) has ranged in 5.39 per cent to 6.17 per cent. However, in the past one month, expectations of a bank rate cut have seen long-tenure gilts generate superior returns. A reason for volatility could also be the standard deviation of long-term and short-term gilt funds. While the standard deviation of long-term gilt funds ranges between 0.34 and 1.43, in the case of short-term gilt funds it hovers in the 0.16-0.34 range.

Steady income-seekers, with a short-time frame (3-6 months) will find short-term gilt funds a good deal. These funds usually generate superior returns as compared to short-term debt and cash funds. The reason: gilts respond more actively to interest rate changes in comparison to corporate bonds, which most short-term debt and cash funds invest in. However, these funds are more volatile than cash funds, which have a standard deviation in the range of 0.01-0.04.

Despite turning in superior returns, gilt funds are yet to catch retail investors’ interest in a big way. To increase retail participation, key stock exchanges had kicked off trading in gilts-almost similar to stock trading. Professional management, diversification and, above all, ease of investing, however, makes gilt funds an attractive pick. Nevertheless, short-term gilt funds have been losing out to short-term debt funds. In 2002, 20 short-term debt funds were launched and together these funds now manage around Rs 6,000 crore worth of assets. On the other hand, 15 short-term gilt funds have assets worth just Rs 140 crore under management, as on March 31, 2003. A small size makes these funds to hold a concentrated portfolio that is spread across just 4-5 gilt instruments.

For short-term investors, the following short-term gilt funds could be worth a look.

K-Gilt Savings Plan
This eldest member of the category has posted a decent 9.85 per cent since its launch. With net assets around Rs 15 crore, the fund has a reasonably diversified portfolio spread across gilts and T-bills. This fund is among the top five short-term gilt funds with highest sharpe ratio, thereby indicating superior risk-adjusted performance over the past one-and-a-half years. This is also indicated by its below average risk and average return profile also.