What is Repo Rate and How Does It Potentially Impact Mutual Funds?

The repo rate is the rate at which the RBI lends money to banks against eligible securities. Changes in the RBI repo rate can influence market interest rates and bond yields, which may, in turn, influence the NAV of mutual fund schemes with debt exposure. 

A repo rate change travel through the bond market and eventually show up in a mutual fund’s NAV. The impact, however, depends largely on a scheme’s “debt exposure”. 

As per general market understanding, a fund with substantial exposure to debt securities may experience greater NAV sensitivity to changes in bond prices (one of the factors for these changes is the repo rate alterations), while the impact may be lower  for the scheme’s with lesser debt exposure.

Want to understand in detail? Read this article to learn how RBI repo rate fluctuations (both increases and decreases) can influence debt securities. Also, understand how Macaulay and modified duration can be used to measure the interest rate sensitivity of a mutual fund scheme. 

But firstly, let’s begin with the repo rate meaning

The repo rate is the interest rate at which the Reserve Bank of India (RBI) lends money  to commercial banks against eligible securities (generally, funding happens via repurchase transactions). It is the RBI’s principal policy rate and is decided by the Monetary Policy Committee (MPC).

• If the RBI raises the repo rate, borrowing money from the RBI becomes costlier for banks.
• If the RBI cuts the repo rate, borrowing money from the RBI potentially becomes cheaper for banks.

In response, a bank’s funding costs, money market rates, bond yields, loan rates, and deposit rates subsequently adjust due to the change in repo rate. The RBI describes this process as “monetary transmission”. 

In this transmission, changes in the policy rate flows through:

• Money market rates
• Bank lending and deposit rates
• Government and corporate “bond yields”
• Asset prices
• Inflation, and
• Economic activity

As of September 18, 2026, the RBI repo rate is set at 5.25%. (Source: RBI Statistics, latest available). It is worth mentioning that the RBI has maintained a “neutral stance” since December 2025. (Source: Business Standard report, dated December 5, 2025, Latest Available)

A repo rate increase can influence mutual funds (with debt exposure) through several market-rate adjustments. When the RBI raises the repo rate, borrowing costs in the financial system increases, which may push other short-term and market interest rates higher. Investors may then demand higher yields from newly issued bonds. 

Since existing fixed-rate bonds continue to pay their original coupons, their prices can fall to make their yields more competitive with newly issued securities. Now,  mutual fund schemes holding these bonds in their portfolios can experience downward pressure on their NAVs.

A repo rate cut generally works in the opposite direction to a repo rate increase. When the RBI reduces the repo rate, borrowing costs in the financial system declines, which can put downward pressure on market interest rates and bond yields. 

As yields fall, existing fixed-rate bonds may become more valuable because their higher coupons become relatively attractive compared with newly issued bonds offering lower rates. In response, their market prices may potentially rise. 

Now, the mutual fund schemes holding such bonds in their portfolios may experience a higher NAV. 

Not all mutual fund schemes respond to repo rate changes in the same way. “Duration” of its debt portfolio indicates how sensitive the NAV of a mutual fund’s portfolio is to changes in market yields (influenced by RBI repo rate changes). As per general market understanding:

• A portfolio with a longer duration will experience a larger price movement when yields changes

and

• A shorter-duration portfolio will experience a smaller movement

Note that “Macaulay duration” is the weighted average time an investor takes to receive the cash flows from a bond or debt security (including both interest payments and the principal repayment). It is expressed in years and considers the timing and present value of each cash flow. 

Now, the yield sensitivity of a bond can be calculated using the “Modified Duration” of a debt mutual fund scheme. It estimates the percentage change in the bond’s price for a 1 percentage-point change in yield (assuming an opposite movement in price). 

Modified duration is derived from Macaulay duration using the following formula: 

Where, 

• YTM represents Yield To Maturity

and 

• “n” represents the number of coupon payments made per year. 

Now, once the modified duration is calculated, it can be used to measure the sensitivity as follows:

Let’s understand the application of this formula through a hypothetical example where we calculate the “Approximate Price Change” for a Short Term Fund.

Example

As per SEBI regulations, a Short Term Fund is a debt scheme investing in debt and money-market instruments such that the Macaulay duration of the portfolio is between 1 year and 3 years.

For this example, let us assume that a Short Term Fund has a Macaulay duration of 2 years and the portfolio's YTM is 8%. The fund receives coupon payments once a year (n = 1). Firstly, let’s calculate the modified duration:

Now, let us calculate the sensitivity of this debt fund to repo rate changes through two different scenarios:

*before considering other factors such as accrual income, convexity, and credit-spread changes.

Disclaimer: This is a hypothetical illustration of interest rate sensitivity and not an estimate of the mutual fund's actual return. Investors may consult financial advisors before investing.

An Important Observation: Higher Duration May Lead to Greater Repo Rate Sensitivity

In the formula for calculating the Modified Duration, investors may observe that the “Macaulay duration” is in the numerator. Therefore, if we assume that YTM and the coupon payment frequency (n) remain unchanged, a higher Macaulay duration may result in a higher modified duration.

Next, as you are now aware, Modified duration is then multiplied by the change in yield. Thus, when the modified duration is higher, the same change in yield may produce a larger approximate change in bond price. 

So, what can we conclude? A higher Macaulay or Modified duration potentially indicates greater sensitivity of the NAV of a mutual fund scheme with debt exposure to repo rate movements. 

Consequently, a mutual fund with a longer-duration portfolio generally have greater interest rate sensitivity than one with a shorter-duration portfolio. 

However, note that the actual change in NAV can differ from this estimate because of several other factors, such as:

• Convexity

• Credit-spread movements

• Accrual income

• Portfolio changes, and

• Liquidity conditions

So, now you know what repo rate is and how fluctuations in it can influence the NAV of mutual fund schemes. If we were to revise, schemes with greater debt exposure can be more influenced by repo rate changes than schemes with minimal or low debt exposure.

When the repo rate increases, market yields may rise. This causes the prices of existing fixed-rate bonds to fall and potentially puts downward pressure on the NAV of mutual fund schemes. In contrast, when the RBI repo rate decreases, yields may fall. This can increase the prices of existing bonds and potentially support the NAV.

The extent of this impact also depends on “duration”. Generally, portfolios with longer duration have greater interest-rate sensitivity. Their NAV may experience a larger change for a given movement in market yields than shorter-duration portfolios.

For more information, you can visit www.tatamutualfund.com/deshkarenivesh. The Investor Service Centre of Tata Asset Management Pvt. Ltd. is located at Mulla House, Ground Floor, 51, M.G. Road, Near Flora Fountain, Mumbai – 400 001, Maharashtra. The office hours are Monday to Friday, 9:00 AM to 5:30 PM. For assistance, you can also call (022) 6282 7777 from Monday to Saturday, 9:00 AM to 5:30 PM, or email service@tataamc.com

1. Does a repo rate increase automatically reduce the NAV of a mutual fund?

No, a repo rate increase does not automatically reduce every mutual fund’s NAV. Its effect depends on the:

• Scheme’s exposure to debt securities
• Changes in market yields
• Duration of its debt portfolio, and several other factors.

As per general market understanding, debt-oriented schemes face greater NAV pressure if rising yields reduce the market value of bonds held in their portfolios.

2. Which mutual funds are more sensitive to RBI repo rate changes?

Debt mutual funds are generally more sensitive because they primarily invest in bonds and other fixed-income securities whose prices can respond to changes in market yields. 

Within debt funds, schemes with longer-duration portfolios have greater interest-rate sensitivity.

3. Does a 1% repo rate change indicate a mutual fund’s NAV will change by 1%?

No, the repo rate and bond yields do not necessarily move by the same amount. “Modified duration” estimates a portfolio’s price sensitivity to a change in yield. 

The actual NAV impact can also be influenced because of accrual income, convexity, credit spreads, liquidity, and portfolio changes.

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