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Debt markets race ahead of RBI and signal a rate hike. How should you handle your debt portfolio?

Don’t touch your existing debt funds, say financial planners. But if you want to invest incremental money, deploy slowly

April 24, 2022 / 02:06 PM IST

Now that the RBI has decisively signalled a turn in the interest rate stance, an upward shift in fixed income yields has started. The 10-year benchmark Government bond (G-Sec) yield moved up from 6.91 percent on Friday 8th April to 7.21 percent on 13th April at market close; up 4.35 percent in just three trading days.

Rising rates means that in the short term, debt investments bear the risk of fall in price; bond prices rise when yields fall and vice versa. The jury is divided on whether the uptrend in yields is sustainable or if it is threatened by a potential global recession led by the US economy. The uncertainty of the global situation, coupled with an expectation of sharper tightening (rate hikes) by the RBI in the months ahead means that the risk of volatility is high.

What should the average individual investor do about their fixed income allocation? Is it worth riding the rising yield curve or should you be careful about the consequent fall in price of bonds? Should you change your short-term allocation or is it the long-term debt allocation that will get more impacted?

Here’s a quick take on how individual investors can adapt their portfolios to the shift in the yield curve.

Existing debt allocation

Some of your fixed income allocation would be linked to goals that need safety of capital as a priority rather than high return. The money invested in short-maturity debt investment options is money you need in the coming months, and shifting this for any reason could work against the goal.


For medium- to long-term allocation, there is merit in having a re-look at where you are invested. If you have listed bonds due for maturity a few years later, holding till close of the investment horizon is a better option rather than selling now when prices would have fallen.

The RBI has used a unique tool in the most recent monetary policy to signal a drain of liquidity from the economy and a shift to higher interest rates in the coming months. If and when the actual rate hikes begin, there could be further spiking of yields and fall in bond prices. This kind of change impacts long-term debt securities more than short-term, given that the former has many years to maturity and the holder/buyer will lose out on the benefit of potentially higher returns in the changing cycle. Hence, demand for such long-term securities fall when interest rates go up, leading to a fall in market value of such bonds.

According to Vishal Dhawan, CEO and Founder, Plan Ahead Wealth Advisors, “We have been cognisant of inflationary pressures in the Indian and global economies for a few months and were expecting inflation to be in a higher range than what the RBI was indicating. As a result, for clients, our recommendation for a while now has been to remain with either very short maturity debt funds or hold-to-maturity debt exposure through instruments like tax-free bonds or target maturity funds.”

Interest rate hikes have minimal impact on both these types of debt instruments.

If you are invested in long maturity debt funds or listed bonds, don’t panic through the fall in price now, remind yourself of the long-term goal you had invested for and stick to the time horizon.

Where to add fresh money in debt funds, now?

For any new allocation to debt or fixed income securities, financial advisors suggest a slow and steady approach.

Avoid lumpsum investments at the turn of the interest rate cycle. Nisreen Mamaji, CFP, CEO – MoneyWorks Financial Services, prefers to park new allocation in debt in floating rate funds or even arbitrage funds for now till the uncertainty settles. “The risk in the current environment is too high to take a stance on interest rates and it’s better to wait and see how the situation evolves,” she says.

Although interest rates are largely expected to go up soon, there may be some hiccups. Dhawan says, “Macro-economic indicators suggest there is reason to expect a recessionary period in the future for the US economy. If that happens, the impact will be felt in our economic activity too. In such a scenario, hiking rates too sharply or too quickly may not work in our favour.”

Hence, avoid investing in long-duration securities like long-term bond funds just yet; if interest rates go up, you’ll suffer an immediate capital loss, as prices of bonds will fall. If growth gets stalled in the coming quarters, risks can get amplified. Experts suggest keeping that allocation in stable return options rather than chasing high yield.

Use fixed income allocation of your portfolio to add safety and stability to your portfolio.

Also read | MC30: Pick the best mutual funds you should invest in

For risky assets and a spike in returns, turn to equity funds.

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Lisa Barbora is a freelance writer. Views are personal.
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