Dynamic Bond Funds – Definition, Advantages & Should You Invest in Them?

Last Updated : June 23, 2020, 6:55 p.m.

There are various types of debt funds, each with a distinct investment objective and fund management style. Dynamic Bond funds are a category or type of debt funds that are open-ended (you can buy/sell anytime). Let us understand these funds better.

What are Dynamic Bond Funds?

As the name suggests, these funds are dynamically managed which means they have the flexibility to buy and sell debt securities of different maturities basis the view on interest rates. Factors such as inflation, growth and fiscal deficit determine the interest rates in an economy. When economic growth is slow, interest rates are reduced to spur demand and vice-versa. Interest rates are inversely proportional to the bond prices, so when interest rates increase, bond prices decrease and when interest rates decrease, bond prices move up. During falling interest rates, these funds buy debt securities with higher maturities and increase weightage to gilts (government securities) and in an environment when interest rates are increasing, these funds invest in debt securities with shorter maturities.

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What are the Advantages of Dynamic Bond Funds?

These funds strive to deliver optimal returns to the investor by taking a considered call on interest rate movements. Dynamic bond funds are less volatile as compared to other debt funds such as long duration and gilt funds. If the interest rates increase, gilt or long duration funds could deliver negative or low single-digit returns. On the other hand, dynamic bond funds can pivot to securities with lower maturities in such a scenario and protect the returns. The role of a fund manager is critical in the outcome from these funds since unlike other debt funds these are more actively managed and portfolio calls have to be taken nimbly. If the fund manager’s view on interest rates is proven wrong, these funds could underperform.

Should You Invest in Dynamic Bond Funds?

Investment in dynamic bond funds should be done keeping in mind the following factors:

Time Horizon – One should have a time horizon of at least 3 years when investing in these funds to be classified as long term capital gain tax which is lower than short term capital gain tax on debt funds.

Risk Profile – Investors with a moderate risk profile can invest in these funds. For conservative investors, it is better to stick to overnight, liquid and ultra-short duration funds.

Investment Objective – Those investors who are looking for better returns than liquid or ultra-short term funds and do not want to take a call on interest rates can invest in this fund.

Fund Manager – As mentioned earlier, the role of a fund manager is more important in these funds than any other debt funds. Therefore, one should look at the fund manager’s expertise and credentials before choosing and investing in the right dynamic bond fund.

Track Record – You should invest in dynamic bond funds that have a longer track record of 10-15 years. This will validate how the fund manager and the fund house has been able to manage the fund. The last 10-15 years have witnessed different interest rates in various periods and would be a good sample to gauge a fund’s performance.

If you have a moderate risk profile, you can invest in dynamic bond funds by reviewing the factors mentioned above. It is important to have other debt funds also in your portfolio and not invest only in dynamic bond funds. Conservative investors who do not want any risk at all can invest in liquid and ultra-short short term funds.

To know the best liquid funds to invest, you can read another post of ours – https://www.wishfin.com/mutual-fund/5-best-performing-liquid-funds-to-invest-in/

To know the best ultra-short term funds to invest, you can read another post of ours – https://www.wishfin.com/mutual-fund/five-best-ultra-short-term-funds-to-invest-in/