Whether Banking and PSU Debt Funds are SAFE?

Many of us during such low Bank FD interest rate regimes and risky debt funds, feel Banking and PSU Debt Funds as alternative safe debt instruments. However, let us see what are the loopholes in this category of funds.

Banking and PSU Debt Funds

What is the definition of Banking and PSU Debt Funds?

Let us first try to define what are these Banking and PSU Debt Funds. As per SEBI definition, the Banking and PSU Debt Fund is a debt fund, where the minimum investment in Debt instruments of banks, Public Sector Undertakings, Public Financial Institutions is 80% of total assets.

Whether Banking and PSU Debt Funds are SAFE?

Now let us try to understand the risk involved in such funds.

# Definition of Banking and PSU Debt Fund is GENERIC

If you check the above definition, you noticed how generic the fund definition. Around 80% of the fund asset in Debt instruments of banks, Public Sector Undertakings, Public Financial Institutions.

I am repeating, again and again, the LOOPHOLE in SEBI Categorization of Debt Funds. SEBI is completely silent on the Credit Quality of the Fund. Take for example of this Banking and PSU Debt Fund, the fund may invest in Banks, Public Sector Undertakings, or Public Financial Institutions of any CREDIT quality. Because the definition is silent on this.

Hence, it is freehand for the fund manager to invest in junk bonds also to generate and highlight the yield. Many may argue that the fund is holding AAA rating PSU and Banking securities. However, there is no guarantee that such a rating will not be downgraded in the future. I agree that the default of PSU Banks or PSU companies may be NIL. However, the way the Government handles such PSU Banks or companies, we can’t close the eyes and invest.

The second biggest drawback of this definition is freehand for the fund manager to take a call on the remaining 20% of the portfolio. This 20% investment call neither can be questioned by you nor by the regulator as the fund manager keeping 80% in banks, Public Sector Undertakings, Public Financial Institutions following the guidelines properly.

# Fund Name is misguiding

The fund category name is mentioned as Banking and PSU Debt Fund, many of us BLINDLY believe that our money is invested in PSU Banks or Companies. However, the fund manager has the mandate to invest in private sector banks and also in other financial institutions, which we hardly notice.

# AVERAGE Maturity of Banking and PSU Debt Funds

You noticed that the average maturity of these banking funds varies as per their wish. For example, the highest AUM fund IDFC Banking and PSU Debt Fund’s average maturity is 2.64 years. However, 30% of the portfolio is maturing in more than 3 years. But it seems to be fine as the majority of the holdings are maturing in 2023.

Let us take the next highest AUM fund in this category. It is Axis Banking and PSU Debt Fund. The fund factsheet shows us the average maturity as 2.1 years. However, the factsheet is silent on disclosing the maturity period of its holdings beyond this 2.1 years. In fact, the fund is holding around 92% in Corporate Bonds, but we don’t know the maturity periods of all these.

Let us take the third-highest AUM fund in this category. It is ABSL Banking and PSU Debt Fund. The fund declares the average maturity as 3.86 years. However, if you look at its portfolio, the fund is holding the bonds which are maturing even in 2033. For example, the fund is holding 07.57% GOI – 17-Jun-2033 (portfolio weightage is 5.7%), 06.45% GOI – 07-Oct-2029 (portfolio weightage is 4.56%) and State Bank of India SR-I 07.99% (28-Jun-29) (portfolio weightage is 2.18%). This means around more than 11% of your fund portfolio is maturing in at least after 9 years. However, the average maturity is 3.86 years.

Let us take the fourth-highest AUM fund in this category. It is ICICI Prudential Banking and PSU Debt Fund. The fund declares the average maturity as 4.66 years. A portfolio seems to be more horrific than others. Because the fund is holding 7.57% GOI 2033 (portfolio weightage is 8.14%), 6.19% GOI 2034 (portfolio weightage is 6.73%), and 5.79% GOI 2030 (Portfolio holding is 4.88%). It means, almost around 18% of your portfolio is maturing after 10 years. However, the average maturity is 4.66 years.

Let us take the fifth-highest AUM fund in this category. It is SBI Banking and PSU Debt Fund. The fund declares the average maturity as 4.29 years. The fund is holding around 24% of GOI Bonds. This holding within 5 years to 10 years. The fund is holding the NCDs of various companies and it forms around 63% of the portfolio when like Indian Bank holding is around 3.74% and the maturity is in 2029.

What all these indicate? AVERAGE is applicable to the overall portfolio but not for individual holdings.

Do remember that long the bond maturity means higher the interest rate volatility. Even though you feel the fund is investing in the Government of India securities, if the bond maturity is long term, they are highly sensitive to the interest rate movements. Take for example how the Gilt Funds fall around 1% in a week. Hence, never be in the notion that if the fund is investing in Government securities, your money is SAFE.


# Benchmark is suspicious

Many of these funds are following the benchmark of NIFTY Banking and PSU Debt Index. However, if you look at NIFTY Banking and PSU Debt Index, you will find there are 6 NIFTY Banking and PSU Debt Index available and they are as below.

  1. NIFTY Banking & PSU Ultra Short Duration Bond – Macaulay Duration Range 3 to 6 months.
  2. NIFTY Banking & PSU Low Duration Bond – Macaulay Duration Range 6 to 12 months.
  3. NIFTY Banking & PSU Short Duration Bond – Macaulay Duration Range 1 Yr to 3 Yrs.
  4. NIFTY Banking & PSU Medium Duration Bond – Macaulay Duration Range 3 Yrs to 4 Yrs.
  5. NIFTY Banking & PSU Medium to Long Duration Bond – Macaulay Duration Range 4 Yrs to 7 Yrs.
  6. NIFTY Banking & PSU Long Duration Bond – Macaulay Duration Range greater than 7 years.

However, if you look at any Banking and PSU Debt Funds, you noticed that there is no clarity on which Index they benchmarked their fund. Even if they change the benchmark in the future as per their comfort, investors will hardly understand what changes happened and how and why the fund is beating the index consistently.

Why there is no clarity on this front from the AMCs or regulator is unknown to me. However, wherever there is no clarity, there is an opportunity to play with our beliefs. Hence, I feel suspicious of such movements.

Conclusion:- Don’t trust any debt funds blindly. There are many loopholes in terms of regulations, how they manage, and what they declare. Hence, in the absence of stricter and clear regulations, it is hard to believe BLINDLY and invest. Also, many of us going by the fund name category, we fill they are safe. However, the reality is entirely different. If you don’t know, then I wish to remind you of what happened in HDFC Banking and PSU Debt Fund, Due to it’s holding in IL&FS, it went into trouble in January 2019. Hence, believing that the Banking and PSU Debt Funds are safe is a MYTH. Understand and monitor the portfolio cautiously and then invest. Blind investment may be dangerous.

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24 thoughts on “Whether Banking and PSU Debt Funds are SAFE?”

  1. Dr C.Basu Mullick

    Dear Sir,
    Is it safe to invest in Medium term bond fund of SBI under this threat of rising interest rate?

    Can an investment in Ultra short acting fund/ Liquid fund/ Overnight fund can be kept for 3 or more years?

    Is it better to invest in taxfree bonds in secondary market than all these?


  2. I want to restrict my equity mutual fund exposure to 35% and invest 65% in low risk investments. I am already investing 1.5 lac/yr in PPF. So what should I do if banking & PSU funds are not safe?. The return in liquid funds and FD are too low for my long term (10 yrs) investment goal

  3. sunil gavaskar subramanian

    – EPF + VPF – Great instruments for Debt investment. But my worry whether this will be linked to G-Sec soon
    – All tax free Small savings have limitation in investment cap – 1.5 lacs p.a per person
    – FD interests are at rock bottom

    – We are left with direct bonds/PSUBankMF, only, where in we would get 7% after tax. IMO..We can boldly invest in PSU bank bonds and PSU Govt Sectors being backed by RBI and Govt respectively. The challenge is, concenrated risk in case of direct Bonds due to high face value per unit vs downgrade/interest rate sensitivity in PSUBankMF

    1. Dear Sunil,
      EPF+VPF may in the future be market-linked. However, as of now let us enjoy the guaranteed tax-free returns šŸ™‚ EPF, VPF, PPF and Liquid Funds are sufficient to manage your debt part. We mainly look for debt part to compensate for the risk which is already there in risk and also for short term goals. Hence, taking undue risk in the debt part is not the right idea.

  4. Sir,

    Is it also not riskier to hold Liquid Funds/ Overnight Funds for a longer timeframe (more than 7 or 10 years) in our Portfolio. Since big Platforms such as Moneycontrol/ Morningstar/ Value Research suggest the same for 1-3 years duration. Of course I am not trying to chase returns in Debt and ride on equity portion for that matter. But I am confused in this and would rather trust you than such diplomatic big Platforms.

    1. Dear Paras,
      This is where these websites misguiding many in big way. Propagating the idea that Liquid Funds means only for short term. How can long term investing may risk your portfolio when the maturity of the securities in Liquid Funds are less than 91 days and in overnight funds, it’s only a day?

      1. Sir,
        I just read in one of your other article that consistency in returns is important rather than high returns. May I know how you judge the consistency of returns when comparing past performance? Do you consider SIP returns, trailing returns or rolling returns? Also risk adjusted returns presented in majority of the platforms are published considering latest 3 years returns only. How to judge consistency of a fund then?

        1. Dear Paras,
          Consistency with respect to the benchmark is very much import (but not with peer to peer). Regarding returns, I prefer rolling returns as it will give me a clear idea of the journey. If your question is specific to debt funds, then better you cautiously look at the portfolio. Many times, returns or yield are catchy but at what cost??

  5. sunil gavaskar subramanian

    We are left with none if we can’t invest in psu bank fund. Interest rate won’t move up anymore as we follow West Countries closely…IMO

    Also psu papers will be funded by govt , in case of default

    We have one other option is Money Market funds . Here credit default is the biggest problem. Also we don’t know whether fund manager is strictly on A1+ papers

  6. UTI banking and psu debt fund is having jorabat Shillong expressway ncd with rating of D grade .
    Whether there is any chance of recovery ? If so when ? Why didn’t you write about this fund?

  7. There is a statement in the post stating that Axis Banking and PSU fund is holding 92% in corporate bonds. This needs to be corrected.

      1. You are technically right in considering a corporate bond holding of 92% from the latest factsheet. However, I was surprised to note that from the factsheet that bonds from companies like Reliance Industries, Tata sons, L&T, etc as well as bonds from PSUs are all listed under the same common head titled ” Corporate Bonds” to differentiate them from central and state government bonds.

  8. Good article, I just started investing in Axis and Edelweiss Banking and debt fund . Now my confidence is shaken. For a retail investor like me , it is difficult to understand. Will you please guide which is the safest among these? Is axis and edelweiss ok in this category now?

    1. Dear Milind,
      If you closely look at Axis Fund, you noticed that they have around 92% on Corporate Bonds (where maturity details are unknown). Now you can take a call based on this information. Regarding the Edelweiss Fund, they are holding around 88% in NCDs, which are maturing in around 10 years and the story is same with respect to Sovereign Bonds. Hence, it is riskier.

      1. Is it then wiser for Retail Investors to invest in Corporate Bond Funds instead of this Category for the Debt Allocation in their Long Term Portfolio? Can you please provide your such valuable & insightful review for the Corporate Bond Fund Category like you did with Banking & PSU Funds?

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