Bottomline | It’s time to SIP on yields

US hedge fund manager Bill Ackman pointed out last week that he expects inflation to stay elevated and the 30-year treasury yield to jump sharply to 5.5 percent. This should be seen in the context of the inverted yield curve in the US where short-term yields are higher than long-term rates—in contrast to financial wisdom that calls for long-term paper to offer a higher yield.

Soon after, in a separate conversation, the legendary investor oft referred to as the Sage of Omaha, Warren Buffett told CNBC in the context of Fitch’s rating downgrade of the US: “Berkshire bought $10 billion in US Treasuries last Monday. We bought $10 billion in Treasuries this Monday. And the only question for next Monday is whether we will buy $10 billion in 3 months or 6 months.”

He added: “There are some things people shouldn’t worry about. This is one.”

While Ackman and Buffett commented on US treasuries in different contexts, there was a clear message that can be inferred from both: US short-term yields are very attractive, and this makes treasuries a good place to park short-term money. This essence was summed up by Tesla and X’s Elon Musk who called investment in short-term treasury bills a: “no-brainer”.

So, should you be buying short-term bonds in India? Not really. But you could look to start investing in bonds. Before we get to why, let’s look at why the US and Indian bond market positions are different.

In the US today, a short-term 1-month treasury yields 5.38 percent, but a 30-year government bond offers only 4.2 percent.

This defies conventional logic, which requires a longer-term paper to offer a higher yield as the investor is taking a bigger risk by investing money for such a long period over which many things can change that could significantly impact her real returns. It is a reversal of this inverted yield structure that Ackman is betting on. He says he is short on 30-year US treasuries both as a hedge and a standalone bet. He adds: “There are few macro investments that still offer reasonably probable asymmetric payoffs and this is one of them”.

In contrast, the Indian bond yield curve is not inverted. Suggesting no such risk of a big reset in long-term yields and offering a rational investment option to investors. In India, while three-month paper yields 6.7 percent, a 10-year bond returns 7.2 percent, and 40-year paper offers a still higher 7.4 percent.

While the common narrative is “higher for longer” on interest rates in the US, which will eventually drive actions in most other economies, most don’t expect interest rates to climb much further from here. Given this, this may be a good time to invest in government bonds.

But should you go all in right now? Perhaps not. Data we studied on the trajectory of 10-year government security (g-sec) yields since 1998 shows that the median yield has been 7.6 percent and the average 7.9 percent over the period. Even for the past 20 years, the median and average have been 7.4 percent and 7.3 percent, while over the past 10 years the median and average were 7.3 percent and 7.25 percent. The high and low yields in the past 10 years have been over 9 percent and near 5.8 percent.

So, at 7.2 percent we are near the mean. And given how uncertain the times are, it pays not to bet against some more rate hikes. Hence, starting a SIP with a fixed tenure of about 12 months may not be a bad option to capture the high yields. But given that bond markets are tricky, and you need to be nimble to manage duration to eke out the best returns, it helps to rely on professional managers to do this for you.

And while bond funds could also be a good option for higher-risk appetite investors, one would suggest the near risk-free government paper-focused gilt funds as a good option for the uninitiated. The most pragmatic approach to such investments is to select the top-rated mutual fund schemes by independent rankers like Morningstar and CRISIL.

Below is a list of 10 schemes listed by Morning Star in the category along with the returns they have delivered over various time frames.

To illustrate the outcome of an SIP-based approach, the following data for ICICI Pru Gilt Fund (Direct) Growth plan offers a perspective.

Here it must be noted, that unlike equities, long-term SIPs in bonds may not be the right strategy. You should try to invest when the yields are high and avoid such instruments when yields are low. Hence limit your SIP period to a specific timeframe, aimed at capturing the higher yields. Don’t continue investing when yields fall. That is the time to take some profits.

Happy investing!