What is Debt Mutual Fund?

 Debt funds are mutual fund schemes that are invested in fixed income-generating securities. These can include corporate bonds, commercial papers, government securities, Certificate of Deposit (CD), and other money market instruments. Debt funds have a fixed maturity date where investors can earn a fixed interest rate till the fund’s maturity. Investors with low-risk appetites prefer debt funds as they are less volatile as compared to equity funds. Read on to learn more about debt mutual funds in detail:

Different types of debt mutual funds

  1. Dynamic Bond Funds

These funds invest in debt instruments with varying maturity periods depending on the current interest rates in the market. The fund manager can change the portfolio from a long-duration to a short-duration and vice versa based on the interest cycle.

  1. Liquid Funds

Liquid funds invest in debt securities and debt schemes that have a residual maturity of up to 91 days only, such as commercial papers and treasury bills. Since the risk involved with investing in liquid funds is low, the yields are also low.

  1. Money Market Funds

These funds invest in money market instruments such as treasury, cash bills, and commercial papers. They have a maximum maturity period of 1 year and are considered to be highly liquid, having the potential to draw higher returns as compared to traditional investment options.

  1. Banking and PSU Funds

These funds invest a minimum of 80% of the total fund money in debt securities from Public Sector Undertakings (PSUs), banks, as well as public financial institutions.

  1. Credit Risk Funds

Credit risk funds invest a minimum of 65% of the total fund money in below highest-rated corporate bonds. With the ratings being lower, these bonds offer higher interest in compensation for the credit risk involved.

  1. Corporate Bond Funds

Corporate bond funds predominantly invest in the highest-rated corporate bonds. These funds are invested depending on the credit rating of securities. Those who have a moderate risk appetite prefer investing in corporate bond funds.

  1. Gilt Funds

These funds invest at least 80% of the fund assets in government securities with varying maturity periods. Gilt funds are considered to be stable investments given their low credit risk.

  1. Overnight Funds

Overnight funds invest in securities that have a maturity period of 1 day. These funds carry minimal credit risk given their short maturity period and are hence considered to be relatively stable.

  1. Ultra-Short Duration Funds

These funds invest in money market instruments and debt securities with a Macaulay Duration lasting for 3 to 6 months. These funds generally provide better returns than FDs.

  1. Short Duration Funds

These funds invest in debt securities with a Macaulay Duration that lasts for 1 to 3 years. These funds can be invested in short-term instruments as well as debentures, government bonds, corporate bonds, and so on.

  1. Low Duration Funds

Low duration funds invest in money market instruments and debt securities with a Macaulay Duration lasting for 6 to 12 months. These funds involve slightly higher risk as compared to ultra-short duration funds.

  1. Medium Duration Funds

Medium duration funds are invested in money market instruments and debt securities with a Macaulay Duration lasting for 3 to 4 years.

  1. Floater Funds

Floater funds invest at least 65% of the investible corpus in floating rate instruments. These funds carry a low risk when it comes to their interest rate.

  1. Fixed Maturity Plans (FMPs)

FMPs are open-ended debt funds that can be invested only during NFOs (New Fund Offer). These funds invest solely in securities that have maturity periods that match or are lesser than the maturity period of the FMP.

Do note that debt funds do not offer guaranteed returns, even though they invest in fixed-income instruments. The NAV (Net Asset Value) of a debt fund usually tends to fall with a rise in the overall market rates. Debt funds are prone to interest rate risk and credit risk. Fund managers can invest in low credit-rated securities that have high chances of default when it comes to credit risk. When it comes to the interest rate risk, bond prices can drop if there is an increase in the interest rates.

One can invest in debt mutual funds with varying durations. This would depend on the investor’s investment horizon and financial planning. While some might invest in debt mutual funds for a regular income, some might do so for ensuring stability in their portfolios. Whatever the reason, make sure to have a proper investment plan before making any decisions!

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