ETMarkets Smart Talk| FDs, government bonds or debt mutual funds: How should investors choose in today's market?

With bond yields rising, domestic liquidity tightening and global interest rate expectations shifting, India's fixed-income market is navigating a period of heightened uncertainty.

While fixed deposits offer predictability, government securities provide sovereign-backed investment options and debt mutual funds offer diversification and market-linked returns, choosing the right instrument requires investors to look beyond headline interest rates.

So, how should investors position their fixed-income portfolios in the current environment? Is this the right time to lock into higher yields through longer-duration funds, or should investors remain cautious and stick to shorter-duration strategies? And what should they make of the recent outflows from debt mutual funds?


In this edition of ETMarkets Smart Talk, we speak with Siddharth Chaudhary, Head – Fixed Income, Bajaj Asset Management Limited, who shares his outlook on interest rates, bond yields and liquidity, and explains how investors can navigate the changing fixed-income landscape while balancing returns, risk and liquidity needs. Edited Excerpts –

Q) We have seen bond yields rise, liquidity tighten and expectations around the RBI's next policy move shift. What has fundamentally changed in India's fixed-income market over the past few weeks?

A) Until a few months back, domestic inflation and liquidity were the main drivers of the bond market. What has changed is the growing influence of the external environment.

Global yields are higher, crude oil has remained a concern, the INR is under pressure and domestic liquidity has tightened. So, this is no longer only about the next repo-rate decision.

The market also has to consider whether rates and liquidity need to adjust faster and need to remain there for longer.

In short, the external environment has finally started influencing Indian fixed income much more meaningfully in last 3 months.

Q) Looking ahead, what is your base case for the Fed’s policy trajectory through the first quarter of 2027, and what developments could prompt a shift in that outlook?

A) Our base case is that the Fed raises rates by 25 basis points in December and then remains on hold through the first quarter of 2027. Inflation is still elevated, while resilient growth and employment give the Fed room to maintain a restrictive stance.

Even during a pause, longer-term US yields could remain high because of inflation concerns, fiscal pressures and heavy Treasury supply. A renewed energy shock, persistent core inflation or stronger wage growth could prompt further tightening.

Conversely, a decisive moderation in inflation, accompanied by weakening employment and demand, would reduce the need for additional increases and could eventually revive discussion of easing

Q) Could a more hawkish Fed trigger further pressure on the rupee and foreign portfolio flows into Indian debt, even if the RBI keeps domestic rates unchanged?

A) Yes, it could.

Higher US yields can narrow the relative yield advantage of Indian bonds. In the last month this gap has increased a bit but it still remains lower than long term average.

A stronger dollar raises the risk of currency losses for unhedged investors, while higher hedging costs can reduce returns for hedged investors. That can put pressure on both the rupee and foreign flows into Indian debt.

The RBI does not need to follow every Fed move but there is adjustment left to Indian policy rates in line with resurgence of inflation expectations.

But if US yields, the dollar and crude oil all rise together, it becomes harder to ignore the external pressure. In that situation, liquidity management and currency stability may become just as important as the repo rate itself.

Read more: ETMarkets Smart Talk| Gold, silver or copper? Tata MF fund manager suggests a 50:30:20 commodity allocation: Tapan Patel

Q) How should investors choose between fixed deposits, government securities and debt mutual funds?

A) These products solve different problems. The starting point should be when the money is required, how much liquidity is needed and how much volatility the investor can tolerate.

Like an institution, every individual or family has different financial needs, including liquidity management, protection against specific risks, and matching investments with future liabilities.

They may not have a formally stated investment or asset-liability management policy, but the basic principles remain the same: identify the purpose and timing of each requirement and select an instrument that is appropriate for it.

A bank fixed deposit offers greater predictability if held to maturity, although investors should consider the bank, premature-withdrawal conditions and post-tax returns.

A government security provides sovereign credit quality, but its price can fluctuate, particularly at longer maturities.

A debt mutual fund offers diversification and liquidity, but its returns are linked to the market. Investors should therefore understand both its duration and credit quality.

For most investors, the sensible answer is a combination: liquid or money market funds for near-term or known cash requirements, and high-quality debt funds where diversification and liquidity are important.

Read more: Beyond tech: Kotak MF’s Shibani Kurian on India’s next innovation-led winners

Q) What is your outlook for interest rates and bond yields over the next three to six months?

A) I do not expect a straight-line decline in yields over the next few months. Crude oil, the rupee, global bond yields and the RBI’s management of liquidity can all keep the market volatile.

At the same time, today’s yields have adjusted upwards significantly and offer better income. The policy rates have to catch up but markets have priced in significant rate hikes.

The short and intermediate parts of the curve provide reasonable accrual without requiring investors to make a large call on interest rates.

For now, I would rely more on the income earned by the portfolio than on expecting a sharp fall in yields.

Q) What is the one fixed-income strategy investors should avoid in the current environment?

A) Investors should avoid going aggressively long on duration simply because yields have already risen a lot.

Yields can remain high for longer, and long-duration portfolios can experience considerable volatility while the adjustment plays out. I would also avoid taking hidden credit risk for a small pickup in return.

There is no need to call the exact top in yields. It is better to focus on the income available at current yields, maintain credit quality and add duration gradually.

Q) Debt mutual funds saw outflows of ₹1.83 lakh crore in September. Should investors interpret this as a loss of confidence in fixed income, or was it largely a temporary liquidity-management phenomenon?

A) Not at all. I would not interpret these outflows as a loss of confidence in fixed income. In fact, one could argue that many investors remain underinvested in the asset class.

The volatility across asset markets over the past three years has reinforced the importance of evaluating returns on a risk-adjusted basis. A well-constructed fixed-income allocation, aligned with an investor’s liquidity needs and future liabilities, could have reduced volatility at the overall portfolio level.

Investors should therefore reassess the strategic role of fixed income in their portfolios, particularly in light of the lessons from recent years.

The headline number looks dramatic, but most the redemptions came from liquid and money-market funds. These are treasury-management categories used extensively by companies and institutions. September was also a quarter-end and advance-tax month.

So, I would read this primarily as a movement of institutional cash rather than investors losing faith in fixed income as an asset class. A good amount will come back in October and as rate adjust upwards.

Q) Should investors favour short-duration and money-market funds in the current environment, or does the rise in yields create an opportunity to gradually lock into longer-duration funds?

A) Investors do not need to choose one end of the curve and abandon the other.

Those with near-term requirements should remain largely in money-market and short-duration strategies.

Investors with a genuinely longer horizon, and the ability to tolerate some interim volatility, can begin adding high-quality duration in stages rather than all at once.

A sensible approach is to keep a meaningful part of the portfolio at the shorter end and gradually add duration as yields offer better value. Longer-duration yields are becoming more interesting, but I would not yet declare that the peak in yields is behind us.

(Disclaimer: Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)