Prime Recommendation: Should you go for this debt fund or the 3-year Bharat Bond fund?

At the end March 2020, we recommended 3 MF debt options that you can invest in over the next 2 to 3 years to capitalize on the on-going low-rate scenario. The call has embarked on a successful track. You would also have stayed clear of any credit risk events that panned out the very next month, had you shifted your money in these funds.

In this article, we are going to discuss the most conservative of the 3 funds that we recommended.

debt options

Axis Banking & PSU Debt is required to invest not less than 80% in bank instruments and bonds of PSUs with AAA/A1+ rating. It can invest up to 20% outside of these, including gilts.

Axis Banking & PSU Debt stands out for:

  • Its consistency in returns
  • Least volatility in return

This is thanks to steady duration management (a roll down strategy as the fund likes to call it), capturing opportunities in the short-end of the segment.

While a long duration strategy or a constant maturity strategy works well in a falling to flat rate scenario, this fund’s strategy can return better in a flat rate and a rising rate scenario. We are not losing sight of the possibility of further rate cuts. But what is somewhat clear is that we are not too away from the trough.

This was among the reasons for our earlier call in March, as we anticipate this strategy will work over a 2-3-year period. This fund has an added advantage in terms of: one, lower residual maturity and two, lower credit risk. A paper closer to its maturity is perceived to have lower risk of default. This, combined with the paper being high quality means prices can move up more now than they normally would in credit-worthy times. 

What makes this fund tick?

Consistency: Axis Banking & PSU Debt is among the most consistent performers in both the banking & PSU debt and short duration category put together. The fund beat this universe 92% of the times when 1-year returns were rolled daily for 3 years (over 2016-20). This is among the best in the short duration and banking &PSU space, next only to HDFC Short Term Debt.

This performance is commendable given that many short duration funds have a steady and high accrual (given the higher credit risk they carry than banking & PSU funds).

When 3-year returns were rolled over a period of 8 years too, the returns stood at 8.7% – a full 100 basis points over the universe’s (short duration and banking & PSU) average, showing that returns hold over longer periods too.

Low Volatility: Axis Banking & PSU Debt is the least volatile when compared with its SEBI-stated category peers. While it is not the least volatile when compared with short duration category, it is still among the half a dozen least-volatile funds in that space as well. This is also worth mentioning as short duration, unlike banking & PSU category, enjoys higher consistency give their accrual-driven approach.

The fund is also less volatile over shorter periods as shown by rolling 1-month returns (over 3 years). The proportion of negative returns over this period, at 8.6%, is lower than peer IDFC Banking &PSU Debt (10.2%), a more aggressive fund than Axis.

Strategy aids systematic withdrawal: Consistent performance and lower volatility lend stability to returns. Axis Banking & PSU holds relatively lower maturity papers than peers, largely sticking to well under 3 years; it has held papers with maturity of around 1.3 years through its lifetime. This steady approach ensures returns are also by and large predictable, subject to rate scenarios.

Interest rate cycles remaining what they are, the data above shows that the fund is almost certain to generate over 6% returns over any 1-year period. It also does a good job of seeking higher returns, far better than peers in the category.  

Why is this consistency important? Because this is an important factor to consider if you want to generate regular income through a systematic withdrawal plan (1-2 years after you invest in it). When returns are somewhat steady, the fund is more amenable to plan what your rate of withdrawal should be. More volatile peers such as SBI Banking & PSU Debt or IDFC Banking & PSU Debt provide less comfort on that front.

Comparable products

We receive queries comparing Banking & PSU debt funds with Bharat Bond ETF/FoF. It is true that that the run-down strategy (target maturity) in the 3-year Bharat Bond (maturity in 2023) is comparable in terms of maturity profile to banking & PSU funds. However, there is an important distinction that needs to be understood.

 One, it means comparing an active fund to a passive fund. Two, while banking & PSU funds can choose to up their maturity profile suddenly, Bharat bonds must necessarily let the maturity wind down as per stated maturity. This means, their ability to play rates effectively is less. Instead, you will have to play it yourself, knowing when to book profits, if you see abnormal returns.

For this reason, Bharat Bond ETF’s returns at the time of maturity will likely be close to the yield at which you enter (if you simply hold and there are no major downgrades). However, with banking & PSU funds the capital appreciation opportunities are locked into by fund managers and profits booked. This marginally enhances returns.

Let’s take an example: In May 2016, the yield to maturity of Axis Banking & PSU debt was 7.47%, average maturity was 1 year and expense ratio (regular) at around 0.37%. The returns for you should theoretically be around 7.1%. However, the actual return was 7.8% a year later. Clearly, ability to book the profits from capital appreciation distinguishes the active funds from the passive ones. It is for this reason that banking & PSU fund returns are unlikely to be worse off (or may even be better) over longer periods, despite having a higher expense ratio than Bharat bonds.

While there isn’t much data to compare, the rolling 1-month returns since January 2020 (after Bharat Bond 3-year maturity was launched) stacked up as given in the table. The data shows that Bharat Bond ETF has been more volatile, albeit delivering higher in the short term, given the rate cut scenario in these 5 months.


  • Axis Banking & PSU fits well if you have a low risk or steady return need.
  • It may not be the best in category as it will lose out a bit to more active duration funds in falling rate scenarios. At such times, Bharat Bond may also seem better, provided you know when to book profits. We would prefer the Axis fund for 2-3-year periods for its ability to book profits. Please note that we are not discussing longer duration Bharat bonds here.
  • Do not expect to play the duration strategy through this fund as it does not go too long.
  • You can use Axis Banking & PSU Debt for systematic income withdrawal needs after 2 years of holding it.
  • This fund can be combined with corporate bond fund (for 5-year goals) and with constant maturity fund for longer goals.

The fund has Rs 15,300 crore of AUM and is managed by Aditya Pagaria. Expense ratio under the regular plan has been creeping up over the past 4 years to 0.62% now. Such change is more contained at 0.31%, for the direct plan. 

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12 thoughts on “Prime Recommendation: Should you go for this debt fund or the 3-year Bharat Bond fund?”

  1. Hi Vidya:
    I plan to invest in this fund as part of your 5-7 year Prime portfolio (15%). Should I be doing an SIP in this or even a lumpsum would be OK.



  2. It would be very useful, if , all debt funds reviews are up-dated whenever there is a RBI Credit policy announcement or Franklin type of bad news hits the market

    1. Our MF review tool is updated every quarter and they are for performance and shifts in performance – not for strategies. For strategies our articles hold good like our debt outlook in January
      our take on debt based on budget:
      and our call on a debt fund post budget thanks, Vidya

  3. Sankar Narayanan

    Hi Vidya ji
    Today only I read the above article. Having almost exhausted all my fixed income savings option like senior citizen savings scheme, FDs with Sundaram finance, HDFC, post office etc, I was looking for a safe debt instrument with tax advantage. Having burnt my finger with Franklin Templeton debt schemes, I was extra cautious and suspicious on MF debt. Your detailed analysis of Axis banking & PSU debt gave me an insight and today itself I invested good amount.
    Have a good day

  4. THanks for this.
    One risk with the Banking & PSU debt funds is AT1 bond exposure. AT1 bond exposure is worse than equity as it can be totally written off like in Yes Bank case.

    It would have been useful if you included details about the AT1 bond exposures in Axis Banking & PSU Debt fund. AT1 bond exposure increases return but the risk is higher

    1. Hello sir, Yes we are very cognisant of those risks and the risk is already factored in by us in our first level filters itself, in our evaluation methodology. To answer your question, there is no AT1 bond exposure in this fund. thanks, Vidya

  5. This is mostly quantitative. Can you talk about the qualitative side as well? For instance: “a full 100 basis points over the universe’s (short duration and banking & PSU) average” what causes that out performance if it is not taking additional risk?

    1. Sir, I thought it was self-explanatory. Sorry if it wasn’t clear. It is entirely the duration…and now like I mentioned, the higher premium from quality bonds in the current scenario. THis is the part ”This fund has an added advantage in terms of: one, lower residual maturity and two, lower credit risk. A paper closer to its maturity is perceived to have lower risk of default. This, combined with the paper being high quality means prices can move up more now than they normally would in credit-worthy times. ” thanks, Vidya

  6. Thanks for this analysis. You point out that aside from the falling interest rate scenario, where duration strategy works well, Axis Banking and PSU debt fund’s strategy can return relatively better in a flat interest rate and a rising interest rate scenario, as well.

    As you point out that we may be somewhere close to the trough in the interest rate cycle, is it possible to expand the scope of this analysis to debt funds in the shorter duration space ( mainly short term, low duration and others) that follow similar strategies that help them perform relatively better in flat and rising interest rate scenarios?

    1. Hello Sir, This is a specific fund review and hence the strategy across categories could not be discussed. We have given our theseis on the current rate scenario here: To answer yor question, no at this juncture, the same strategy canot be extended to ultra short or low duration. This category is very different from those. For short duration, yes, some do quality. They are already on our Prime Funds. thanks, Vidya

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