Credit-Risk Funds Top Debt Category With 8.97% 3-Year Return — SkimNews
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- Credit-risk funds posted 8.97% three-year returns, the best-performing debt mutual fund category, per Morningstar Research India, driven by improving corporate balance sheets, lower leverage and easing default concerns.
- Nirav Karkera, head of research at W by Groww, attributed the category's outperformance to three factors: credit spread earned on lower-rated securities, duration gains during the RBI's 125 basis point repo rate cuts through 2025, and the absence of major defaults or downgrades.
- Credit-spread compression widened the yield gap between AA-rated holdings and the repo rate from roughly 1.6% in mid-2023 to about 2.8% currently, boosting capital gains alongside accrual income for the roughly 55-59% AA-rated bond exposure typical in these portfolios.
- Credit-risk fund rules mandate at least 65% allocation to corporate bonds rated AA and below; the category's current yield to maturity of about 8.1% sits 60-120 basis points above banking & PSU or corporate bond funds.
- A-and-below exposure within the credit-risk fund category ranges from around 0.5% in conservative funds to nearly 18% in aggressive ones, meaning the same label can mask vastly different downside risk, Karkera said.
- Nehal Meshram of Morningstar said the category suits investors with higher risk appetite and a three-to-five-year horizon as a satellite allocation, while conservative investors, retirees and those with short-term goals should avoid it.
- Karkera cautioned that with spreads this compressed, 'the extra yield is thin relative to the risk,' and warned against parking emergency or near-term money in the category, citing the 2020 liquidity episode when redemptions surged.
Why it matters: The 8.97% return was earned during a tailwind trifecta — RBI rate cuts totaling 125 bps, spread widening of 120 bps, and no major defaults — that may not repeat. With credit spreads now compressed and the yield premium over safer debt funds down to 60-120 bps, investors who chase the headline number without checking A-and-below exposure or issuer concentration could face sharper NAV drops if defaults return, as they did in 2020.
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