Selecting the right instrument for investment remains the most important factor while making the investment. It depends upon various factors such as risk-taking ability, investment horizon, already available corpus, etc. Before knowing the How’s of investment, you must have an understanding of the Whats of investment. Let us introduce you to one of the most important kinds of mutual funds that you can invest in, i.e., debt funds.
What is a debt fund?
Debt funds are a kind of mutual fund that demands the investment to be done in the debt market. There are various instruments associated with it, including government bonds, treasury bills, commercial paper, money market instruments, certificates of deposits, and corporate bonds. There is a fixed and specified periodic payment of interest as well as the maturity date. The main objective of debt funds is to offer returns with minimum volatility, as compared to equity mutual funds.
Before knowing how to invest in debt funds, let’s understand the same in detail.
Types of debt funds you can invest in-
- Liquid funds– This is a type of debt mutual funds that invests in money market instruments such as inter-bank call money market, treasury bills, commercial papers, and certificates of deposit. As the name suggests, they are highly liquid in nature, meaning the investor can redeem the investment within a short period of time.
- Income funds- This includes investment across all varieties of debt instruments such as bonds, government securities, money market instruments, and corporate debentures.
- Fixed maturity plans- This plan is a close-ended plan and has a fixed maturity date. You can invest in securities, and they will be held till it’s matured. Due to this strategy, the interest rate risk, as well as fluctuations in price, are reduced.
- Gilt funds- Through gilt funds, you can invest in debt securities that are issued by the government, either state government or central. There is an inverse relationship of bond prices with the interest rate, and thus the securities get affected by the interest risk rate, whereas the default risk is negligible in this type of fund since it is issued by the government.
- Short term funds- As the name suggests, you can invest in securities for a short period of time of up to three years. It includes corporate bonds with high credit ratings and is not exposed to money marketing instruments.
Advantages of debt funds-
- If you have a low-risk appetite, debt mutual funds are suitable for you.
- Debt funds can easily be converted to cash.
- There is a low transaction cost in debt funds compared to other funds.
- Debt funds bring in the diversification of mutual funds in portfolios.
- As compared to fixed deposits, debt funds in India provide better returns.
- There are no deductions of TDS or taxes on the earnings from debt funds. You can pay the taxes when you decide to sell or withdraw the fund units based on the period of your investment.
Disadvantages of debt funds-
- In the case of debt funds, return on investment is comparatively lower than equity mutual funds.
- There are additional costs such as transaction cost, marketing cost, salary for the fund manager, etc.
- There are various debt funds in the market, which can make you confused when selecting the scheme.
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