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B. Venkatesh

TEMPLETON India Income Fund returned 14 per cent on a compounded annual basis since its launch in March 1997. Those with long-term investment horizon can consider taking small exposure in the fund.

Consider the following factors before investing in the fund: First, the fund primarily invests in AAA-rated bonds among the corporate bond universe.

Exposure to such bonds no doubt lowers the fund's credit risk. The scope for capital appreciation in the AAA-rated sector, however, appears limited. Why?

The price appreciation in corporate bonds is a function of the credit spreads and yield on government bond of comparable maturity. A 5-year AAA-rated corporate bond, for instance, will be priced based on the 5-year credit spread for AAA-rated bonds, and the yield on a 5-year government bond.

Now, AAA-rated credit spreads have fallen sharply in recent times; falling credit spreads leads to higher bond prices. This suggests that the scope for further price appreciation is limited.

Second, the fund's exposure across the yield curve is beneficial to the unit-holders. The fund invests in short-term corporate bonds, and long-term government bonds. This provides the following advantages.

One, short-term corporate bonds provide higher risk-adjusted yields than short-term government bonds. And two, long-term government bonds contribute to the portfolio's capital appreciation.

Third, the fund follows tactical asset allocation strategy. For instance, if the fund were to take a view that interest rates will fall further, it may increase its exposure to long-term government bonds. That way, the portfolio will generate higher returns if the rate view materialises. The flip side is that tactical asset allocation, which essentially refers to market timing, may expose the unit-holders to high risk should the market move adversely. But that is the risk that unit-holders have to assume in active funds.

Fourth, Templeton as a fund-house also manages another bond fund, Templeton India Income Builder Account (TIIBA). This fund is part of the erstwhile Pioneer ITI group of funds. If for some reason, Templeton decides to merge both the bond funds, or decides to change the investment strategy, the risk characteristics of the Income Fund will change.

Finally, in the event of a continual increase in its asset base, the fund may be forced to invest in riskier bonds, or increase its exposure to existing high-grade and government bonds.

If the fund invests in riskier bonds, the portfolio's credit risk will increase. On the other hand, if the fund increases its exposure to high-grade and government bonds, the yield curve risk and liquidity risk may increase. In all, those with long-term investment horizon can consider small exposure in the fund.

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