Investors should avoid thinking of debt as a risk-free asset class: Devang Shah of Axis Mutual Fund explains why

Debt is often treated as the low-risk anchor of an investment portfolio, but that does not mean all debt investments carry the same risks. For investors, the right debt allocation can depend on their age, investment horizon, income needs and tolerance for interest-rate and credit risk.

This is particularly relevant as the Reserve Bank of India’s Monetary Policy Committee began its October meeting on Monday. With bond yields around 7.5%, investors are also looking at fixed income more closely, but higher yields do not automatically translate into higher or guaranteed returns.

In an interview with Livemint, Devang Shah, head of fixed income at Axis Mutual Fund, explains how investors should approach debt across different stages of their financial lives, from building a portfolio to planning for retirement.

Edited excerpts:

Q. Investors often treat debt as the “safe” part of a portfolio. Is that framework still adequate, or should investors think about multiple dimensions of debt risk such as duration, credit, liquidity and reinvestment risk?

Debt continues to play the role of a portfolio stabiliser, but investors should avoid thinking of it as a single, risk-free asset class. Different segments of the debt market carry different risks, including interest-rate (duration) risk, credit risk, liquidity risk and reinvestment risk.

This becomes particularly relevant in the current environment. We expect inflation over the next four quarters to average around 5–5.25%, and hence we expect RBI to hike 75–100 bps over the next six to 12 months. In such a market, decisions around maturity profiles, portfolio quality and duration can have a meaningful impact on outcomes.

Investors should therefore focus on selecting the right debt strategy for their goals and time horizon rather than viewing all debt investments through the same lens of safety.

Q. Is the traditional idea of moving almost entirely into fixed income after retirement still appropriate when retirement could last 25–30 years?

Retirement planning today is very different from what it was a generation ago. If inflation averages around 5–5.25%, as we currently expect, retirees need portfolios that not only generate income but also preserve purchasing power over time.

A balanced allocation combining high-quality fixed income for income generation and liquidity, along with measured exposure to growth assets, can help address both longevity risk and inflation risk. The objective should be sustainability of income rather than maximising stability at the cost of long-term growth. There are multiple tax-efficient solutions on non-specific debt mutual fund categories which are also good options for investors entering retirement.

Q. For a 40-year-old investor with a 10–15-year horizon, how should today’s bond yields change the way they think about the debt component of their portfolio?

For a 40-year-old investor with a 10–15-year horizon, the current yield environment reinforces the importance of maintaining a meaningful allocation to debt. With high-quality fixed-income instruments offering yields of around 7.5%, investors can potentially earn attractive accrual while improving the overall balance of their portfolios.

Debt should not be viewed merely as a liquidity or contingency allocation. Over long investment horizons, it plays an important role in diversifying risk, cushioning market volatility and helping investors stay invested through market cycles. The focus should be on building a well-allocated portfolio where debt contributes both stability and a predictable source of returns.

Q. Markets are increasingly pricing in the possibility of an RBI rate hike in October. How are you positioning the fixed-income portfolio for a potentially different rate regime?

On the basis of our inflation and growth outlook, we expect inflation to average 5.25% for FY27 and expect RBI to hike the repo rate in October.

We also expect the RBI to remain proactive on liquidity management. Part of the excess liquidity could be absorbed through temporary measures such as VRRR auctions, with the balance managed through more durable tools such as OMO operations and FX sell-buy swaps.

From a portfolio perspective, we are focused on maintaining flexibility rather than taking aggressive duration calls. We continue to favour high-quality fixed-income exposures while calibrating duration based on valuations and evolving macro conditions.

Q. For investors who have traditionally used FDs, does the current bond-yield environment make debt mutual funds more relevant to their portfolios?

The current yield environment has certainly renewed investor interest in fixed income. With bond yields available at relatively attractive levels, around 7.5%, across segments of the curve, debt mutual funds have become increasingly relevant for investors.

Debt mutual funds offer investors access to a professionally managed and diversified fixed-income portfolio, with options designed for varying investment horizons and liquidity needs. As investors seek to strengthen the fixed-income component of their portfolios, debt funds can play an important role in providing stability, diversification and income within an overall asset-allocation framework.

Income Plus Arbitrage category can offer attractive tax solution for investors.

Q. If you were speaking to an investor who has never owned a debt mutual fund but is now attracted by 7%+ bond yields, what would you tell them to understand before investing?

The first thing I would emphasise is that a bond yield is not the same as a guaranteed return. A 7%+ yield indicates the income potential available in the market today, but realised returns will also depend on factors such as interest-rate movements, portfolio maturity and the underlying securities held.

Investors should also recognise that today’s yields are supported by a relatively elevated interest-rate environment and inflation expectations of around 5–5.25%. Before investing, they should understand their horizon, their risk profile, the fund’s objective, duration profile, credit quality and recommended holding period.

In our view, the most successful debt investors are not necessarily those chasing the highest yield; they are the ones who align the right debt strategy with their time horizon, liquidity requirements and overall financial goals.