Banking and PSU Fund: What SEBI’s 80% Rule Really Covers in Your Debt Portfolio

Ask a few people why they hold a banking and PSU fund and you’ll mostly hear the same answer: “It’s safe, it’s all government stuff.” That’s half right, and the half that’s wrong is the bit that can surprise you. A banking and PSU fund is a debt mutual fund category that SEBI defined in 2017, and the rule behind it is about who issues the bonds, not about how safe or how long they are.

We’ll go through what the rule actually says, how a 2021 tweak turned the headline 80% into 72% of net assets in practice, what the risk labels on real scheme documents show, and a couple of worked examples with made-up numbers so the risks stop being abstract. The regulatory text comes straight from SEBI’s October 6, 2017 circular on categorisation of mutual fund schemes and the circulars that amended it.

What SEBI’s banking and PSU fund rule says

Before October 2017, similar schemes from different fund houses could look quite different, and SEBI’s circular (SEBI/HO/IMD/DF3/CIR/P/2017/114) set out to bring uniformity. It split schemes into equity, debt, hybrid, solution-oriented and other groups, and laid down 16 debt categories, each with a fixed definition. It also said a fund house could run only one scheme per category, with exceptions for index funds and ETFs, fund of funds, and sectoral or thematic funds.

Banking and PSU Fund is serial number 13 in that debt list. The original wording asked for a minimum of 80% of total assets in debt instruments of banks, Public Sector Undertakings and Public Financial Institutions. Two months later, a December 4, 2017 amendment circular (SEBI/HO/IMD/DF3/CIR/P/2017/126) rewrote the line to add municipal bonds. The current definition therefore reads: minimum investment in debt instruments of banks, PSUs, Public Financial Institutions and municipal bonds, 80% of total assets.

Notice what is not in that sentence. There’s no duration band. There’s no credit rating floor. Compare that with the corporate bond fund category, which the same amendment tied to AA+ and above rated corporate bonds, or the short duration category, which pins portfolio Macaulay duration between one and three years. The banking and PSU label only tells you which kind of issuer dominates the portfolio.

The 72% detail most investors never see

In June 2021, SEBI issued a circular on liquidity risk management for open-ended debt schemes (SEBI/HO/IMD/IMD-II DOF3/P/CIR/2021/583). One clause matters here. For the asset-allocation limits of four categories, namely banking and PSU, floater, credit risk and corporate bond funds, the base is now net assets excluding the minimum stipulated liquid assets of 10%.

The circular’s own annexure spells out the result for this category: a minimum 72% allocation to banking and PSU assets, worked out as 80% of 90% of net assets. That framework took effect from December 1, 2021.

Here’s how it plays out on a hypothetical scheme with ₹1,000 crore of net assets:

• Minimum liquid assets set aside: 10% of ₹1,000 crore = ₹100 crore.
• Base for the asset-allocation test: ₹1,000 crore minus ₹100 crore = ₹900 crore.
• Required banking and PSU exposure: 80% of ₹900 crore = ₹720 crore, which is 72% of net assets.

So when you read “80%” on a factsheet, the regulatory floor measured against the whole fund is really 72%. The remaining slice can hold the liquid buffer and, depending on the scheme document, other debt and money-market paper.

The banking and PSU label tells you who issued most of the bonds. It says nothing about how long they run or how they’re rated.

What the scheme documents actually allow

The category rule is a floor. Each fund’s Scheme Information Document (SID) fills in the rest, and two filings on SEBI’s site show how different they can look.

The Axis Banking & PSU Debt Fund SID sets 80% to 100% for debt and money-market instruments of banks, PFIs and PSUs, and 0% to 20% for paper from other issuers. It says the other bucket may include instruments issued by NBFCs, caps investment in mutual fund units at 10% of net assets, and states that the scheme will not invest in derivatives or securitised debt.

The HSBC Banking and PSU Debt Fund SID uses the same 80-100 and 0-20 split, but its limits elsewhere are wider. It allows securitised debt up to 40% of total assets and repos in corporate bonds up to 10%.

Same category, same name pattern, quite different rulebooks. If you only read the fund name, you miss all of that.

Reading the risk class, not the name

Debt scheme documents now show a Potential Risk Class (PRC) matrix. It plots the maximum credit risk the scheme can take (Class A relatively low, B moderate, C relatively high) against the maximum interest rate risk (Class I relatively low, II moderate, III relatively high).

The two documents above sit in different boxes. Axis describes its scheme as having “a relatively high interest rate risk and moderate credit risk” and places it at B-III. HSBC describes its scheme as having “a relatively high interest rate risk and relatively low credit risk”, which is A-III.

Two things jump out. First, both are in Class III for interest rate risk, the highest bucket. Second, the credit-risk class differs even though both are banking and PSU funds. The word “PSU” in the name is not a promise of the lowest credit-risk class.

Interest rate risk: a worked example

The Axis SID puts the basic mechanism plainly: when interest rates rise, prices of existing fixed income securities fall, and when rates drop, prices rise, with the size of the move depending on the coupon and maturity. Let’s put numbers on it with a hypothetical bond.

Say a bank issues a 5-year bond with a 7.5% annual coupon, and it trades at ₹100 when market yields for that kind of paper are also 7.5%.

• If yields rise to 8%, the bond’s price drops to about ₹98.00. That’s a 2% fall in value.
• If yields fall to 7%, the price rises to about ₹102.05.
• A 1-year bond with the same 7.5% coupon only drops to about ₹99.54 when yields go to 8%.

Those prices come from discounting the bond’s cash flows at the new yield. The point is simple. The issuer didn’t change and its repayment capacity didn’t change, but a half-point move in yields took two rupees off the longer bond and less than fifty paise off the shorter one. A banking and PSU fund that holds longer paper will feel rate moves more, and the category rule doesn’t stop a manager from doing that.

Credit risk: what the 20% bucket can hold

The Axis SID’s own description of credit risk is useful here. It calls a government security sovereign and the safest, says corporate bonds carry more credit risk than government securities, and notes that even without a default, a bond’s price can move on expected changes in the issuer’s credit rating.

PSU and bank bonds are not government securities. They’re issued by companies and lenders, even if the government owns a large stake. And the non-banking-and-PSU slice of the portfolio can go to other issuers, which the Axis document says may include NBFCs.

To see what that means for one investor, take a hypothetical ₹2 lakh holding. Using the 72% floor, up to 28% of the fund, about ₹56,000 of your money in proportionate terms, could sit outside banking and PSU paper, between the liquid buffer and other debt. Most schemes won’t use all of that room. Your job is to check how much they do use.

A half-point rise in yields can knock two rupees off a 5-year bond without its issuer doing anything wrong.

How we’d check a banking and PSU fund before buying

None of this makes the category bad. Plenty of investors use it as a core debt holding. It just means the name isn’t the analysis. Here’s the short list we’d run through:

1. Find the PRC box. It’s printed on the first page of the SID. A-III and B-III are not the same product.
2. Read the asset-allocation table. Look at the “other issuers” line and anything said about NBFCs, securitised debt, repos and derivatives.
3. Check the portfolio’s Macaulay duration in the latest factsheet. The category has no duration band, so this number tells you how much a rate move will hurt or help.
4. Look at the latest portfolio disclosure. See how much of it is in bank and PSU paper versus everything else, and how concentrated it is.
5. Match your holding period to the duration. If you need the money in a year, a fund holding longer paper can still show a loss when you redeem.

If interest rate risk is the part that worries you, our explainers on the floater fund category and on gilt funds in India show how other debt categories handle it. And the general habit of sizing positions to what you can afford to lose, covered in our risk management guide, applies just as much to bond funds as to stocks.

Where this fits in a debt portfolio

Think of a banking and PSU fund as an issuer filter. It narrows most of the portfolio to banks, PSUs, public financial institutions and municipal bodies. What it doesn’t fix is how long the bonds are, how each one is rated, or what the remaining slice holds. Two schemes in this category can behave quite differently in the same rate cycle, and the PRC box on their documents already tells you that before you buy.

One more thing. SEBI’s mutual fund rules get amended and consolidated over time, and the scheme documents we quoted are dated filings. Before investing, read the current SID and latest factsheet of the specific scheme on the fund house’s or SEBI’s website.

Disclaimer: This article is for educational purposes only and is not investment advice. The bond, scheme and holding figures in the examples are hypothetical. Mutual fund investments are subject to market risks; read all scheme-related documents carefully and consult a SEBI-registered investment adviser before making investment decisions.