Rising yields attract HNIs to bonds: Inside the new debt allocation strategy

Synopsis

Even as this volatility spills over into equity markets, high net worth individuals (HNIs) and ultra HNIs (UHNIs) are not pulling back sharply. Instead, they are holding on to existing equity positions while steadily channelling fresh allocations into fixed income to bring stability to their portfolios.

Higher yields are back in India’s bond market, with the benchmark 10-year bond crossing the 7% yield mark. Rising crude oil prices are fuelling inflation concerns, while government borrowing remains elevated. At the same time, excise duty cuts on fuel could dent revenues and strain the fiscal deficit. Together, these factors are driving bond yields up.

Even as this volatility spills over into equity markets, high net worth individuals (HNIs) and ultra HNIs (UHNIs) are not pulling back sharply. Instead, they are holding on to existing equity positions while steadily channelling fresh allocations into fixed income to bring stability to their portfolios.

Fixed income gains ground amid market volatility

India’s 10-year bond yield has climbed to multi-month highs, driven by oil price pressures and higher borrowing.

Debt in focus

Tensions in West Asia and volatile energy prices have made equity markets increasingly unpredictable. Yet, instead of pulling back sharply, HNIs and UHNIs are taking a more measured approach. According to experts, new allocations are increasingly being directed towards debt instruments, hybrid funds and structured products.

“Post West Asia conflict, we are recommending more multi-asset allocation funds/hybrid funds such as balanced advantage, aggressive hybrids, bonds, yield-oriented alternate products and structured products,” says Yogesh Kalwani, Head- Investments, InCred Wealth.

Yield curve shift

While there are some structural allocation changes underway towards non-equity asset classes, this does not yet look like the beginning of a full-fledged multi-year fixed income cycle. Rising commodity prices have revived concerns around future rate hikes, tempering return expectations. “In this environment, the recommended stance remains a balanced one,” says Ritesh Nambiar, Head-Fixed Income, Motilal Oswal Private Wealth.

Within fixed income, there has clearly been a move towards shorter-duration instruments, as the duration theme has weakened and higher-yield opportunities are concentrated in the short end of the curve, Nambiar adds. Duration, in fixed income, refers to the time it takes to recover the investment through cash flows and also indicates sensitivity to interest rate changes. When interest rates are uncertain, shorterduration instruments tend to be safer because their prices fluctuate less.

Vikas Satija, Managing Director and Chief Executive Officer, Shriram Wealth, says, “Short-term bonds (1–3 years) have become more attractive. This is due to higher yields caused by year-end liquidity pressures and RBI’s forex actions, making them better for locking in returns. At the same time, yields on long-term bonds have also risen because of inflation concerns and increased bond supply. Overall, the risk-reward currently favours investing in short- to mid-term bonds.” The yield curve is a way of comparing interest rates across different time periods. Right now, shorter-term bonds are relatively more attractive from a risk-return perspective.

Chasing higher yields

At the same time, affluent investors are not shying away from taking calculated risks within fixed income to enhance returns. Today, segments like high-yield bonds and private credit are getting increasing interest. High-yield bonds are debt instruments issued by companies with lower credit ratings (unrated also), which means they offer higher returns to compensate for higher risk.

According to Kalwani, “High yield bonds offer 10-13% per annum and performing credit funds gross return profile is 15% IRR (internal rate of return).” Similarly, private credit, where investors lend directly to companies through specialised funds, has emerged as a fast-growing space.

“The shift toward private credit among HNIs/UHNIs is quite significant with a sizeable number of private credit Alternative Investment Funds (AIFs) being launched over the past couple of years, each targeting fundraises of typically Rs.1,000- 1,500 crore. Most funds achieve their target fundraise,” says Satija.

Balancing risk carefully

Chasing higher yield doesn’t mean investors are abandoning caution. Instead, they are adopting what wealth managers call a “barbell strategy”, a portfolio construction approach that combines safety and risk in a balanced way. On one end of the barbell are high-quality, low-risk instruments such as government securities, corporate bonds and highly rated non-banking financial companies (NBFCs). On the other end are higher-risk, higher-return opportunities like high-yield credit and special situations.

Kalwani says diversification is becoming more structured. “Within the fixed Income bucket, around 45% could be allocated to accrual strategies (AAA/AA), 35% high yielding (A-rated and below) and 20% to special situation or performing credit funds,” he says. Accrual strategies refer to earning regular interest income from relatively safer bonds, while dynamic strategies allow fund managers to adjust maturity profiles based on interest rate movements.

Even as investors explore higheryield options, selectivity remains key. “At the moment, investors are seemingly comfortable with taking higher credit risk by selectively moving down the credit curve for higher yields by taking exposure to A-, BBB or lower rated papers typically via private credit AIFs,” Satija says.

What should investors realistically expect from fixed income in the current environment? The answer is more measured than exuberant. Returns are likely to come primarily from the interest earned, known as yield to maturity (YTM), rather than from price gains.

“Over the next two to three years, investors should expect returns to come mainly from portfolio carry (accrual) rather than mark-to-market gains, implying a return expectation closer to YTM, or around 9-10% in the high-yield segment,” says Nambiar. Traditional debt mutual funds such as banking & PSU bond funds and corporate bond funds invest only in high credit-rated papers, so returns are lower—typically 6.75% to 7.25%— but more stable. In contrast, private credit strategies may offer gross returns of 12–16% per annum, but come with higher risk and longer lock-in periods, says Satija.