Where Are Debt Fund Managers Investing in 2026: Morningstar Explains

Indian fixed-income markets did not move in a straight line in 2025. The year opened well for bonds. Rate cut expectations and policy support helped longer-duration strategies early on. According to Morningstar Investment Research India, sentiment was clearly positive in the first few months. However, that tone changed as the year went on. According to a report titled “Starting 2026 on the Right Foot India” by Himanshu Srivastava, Principal Research, Morningstar Investment Research India, global uncertainty increased, mainly because of trade-related tensions. Bond yields moved lower in the first half, but that trend did not hold. “Concerns around the large supply of bonds, especially from state governments, began to weigh on the market,” Srivastava says.

Inflation pressures, the report notes, eased during the year. In response, the report adds that the Reserve Bank of India (RBI) focused on supporting growth through rate cuts and liquidity measures. These steps were backed by the government through measures such as income tax relief and selective GST reductions to support consumption. These actions, according to Srivastava, helped soften the impact of global headwinds and allowed the economy to continue its recovery, even as bond markets turned more cautious in the second half.

As per the report, one aspect stood out in 2025. Despite rate cuts by the RBI, the 10-year government bond yield did not fall meaningfully and stayed within a narrow range through the year. Shorter maturity bonds, the report notes, however, saw a clearer decline in yields. According to Srivastava, this made duration calls more important. “Short duration strategies performed better than other fixed income segments,” he said, with the short duration Morningstar Category emerging as the top performer.

As managers started preparing for 2026, portfolio positioning reflected a shift in thinking. Data shows that most fixed-income managers reduced duration. The cuts were most visible in dynamic bond and long-duration funds. According to Srivastava, this suggests that managers increasingly believe “the rate cut cycle is close to ending.”

With interest rates expected to remain broadly stable and inflation seen staying within a comfortable range, expectations from fixed income have changed, the report adds. Srivastava notes in the report that “returns in 2026 are likely to come more from carry than from large moves in yields”. In line with this, funds with flexible mandates increased their exposure to corporate bonds. Medium duration funds raised corporate bond exposure from about 46 per cent in January 2025 to 53 per cent by December, according to the data in the report. Dynamic bond funds increased exposure from 12 per cent to 23 per cent over the same period, the report adds.

According to Bandhan Mutual Fund, bonds may still see a rally, but uncertainty remains. Srivastava wrote that the fund is not making aggressive duration calls and is instead focused on carry while waiting for better valuations or clearer macro signals. This approach is visible in Bandhan Dynamic Bond. Portfolio manager Suyash Choudhary reduced the fund’s modified duration from around 12 years in June 2025 to 3.4 years by December. Government bond exposure also fell during this period, from 99 per cent to around 55 per cent.

Axis Mutual Fund has taken a different approach. According to Srivastava, the fund is following a barbell strategy. It is using short-term bonds to manage liquidity, while keeping exposure to long-duration bonds for tactical opportunities. The idea is to balance accrual with potential upside.

At ICICI Prudential Mutual Fund, the fund manager, Manish Banthia, has stayed cautious on duration in ICICI Prudential All Seasons Bond. Srivastava notes in the report that Banthia has avoided aggressive long-duration positions since early 2024 and has kept modified duration between 3 and 5 years. The focus, as per the report, has been on steady accrual through selective credit exposure. As of December 2025, about 34 per cent of the portfolio was invested in AA-rated securities, with no exposure to A-rated papers.

Overall, according to Srivastava, managers are heading into 2026 with an emphasis on steady income and risk control rather than chasing capital gains. Credit quality remains high across categories, with most portfolios holding a majority of AAA or equivalent rated securities, he notes.