Debt funds which invest primarily in fixed income securities such as Commercial Papers (CP), Certificate of Deposit (CD), Corporate Bonds, T-Bills, government securities and other money market instruments. Since the investments come with a fixed interest rate and maturity date, it can be a great option for passive investors looking for regular income. They are considered to be less volatile than equity funds and are hence ideal for investors who are relatively risk averse and are looking for stability in their investments. Following are the different types of debt funds:
Short-Term & Ultra Short-Term Funds
Short-term debt funds have a shorter maturity period ranging from 1 to 3 years. These are debt funds that invest in instruments with shorter maturities, ranging from one year to three years. Short-term funds are ideal for conservative investors as these funds are not affected much by interest rate movements. If you have money to invest from 9 to 12 months and have a low-to-moderate risk appetite, short-term funds can be a great investment option.
Dynamic Bond Funds
Dynamic Bond Funds move dynamically across long-term and short-term funds with different maturity profiles. The funds move across all classes of debt and money market instruments taking into account fluctuating interest regimes. Those with medium to high-risk appetites may consider investing in dynamic bond funds.
Income debt funds invest in debt securities with varying maturity periods, but mostly for the long term. The average maturity period of income funds is around 5-6 years. Income funds invest in government securities and corporate bonds, taking into account the changing interest rates. This makes them more stable than dynamic bond funds. The average maturity of income funds is around five to six years.
Liquid debt funds can be converted into cash easily and have a very low maturity period of 91 days. The low maturity period makes them risk-free, but they also provide the most stable returns. The investment is made in Treasury Bills, CDs, or Certificate of Deposit.
Gilt debt funds only invest in securities issued by central and state governments. The maturity period ranges from medium to long-term. Since gilt funds are government-issued debt funds, there is no credit risk, and your capital remains safe. It doesn’t mean there are zero risks with gilt funds because government securities are vulnerable to changes in interest rates.
Gilt funds are suitable for those who are willing to invest long-term and prefer government-backed investment options.
Fixed Maturity Plans
As the term suggests, Fixed Maturity Plans or FMPs have a fixed locked-in period. It could range from months to years. Because of the lock-in period, the FMPs are not affected by changing interest rates. So, the NAV of the fund remains the same. Fixed Maturity Plans are close-ended and tax-efficient and are regarded to be the best alternative to fixed deposits.
Credit Opportunities Funds
Credit opportunities funds invest in different instruments. The investments range from short-term to long-term with the goal of maximizing profits. These debt funds are apt for those who aim for higher returns but are willing to take some risk.
As the name suggests, hybrid funds (Balanced Funds) is an optimum mix of bonds and stocks, thereby bridging the gap between equity funds and debt funds. The ratio can either be variable or fixed. In short, it takes the best of two mutual funds by distributing, say, 60% of assets in stocks and the rest in bonds or vice versa. Hybrid funds are suitable for investors looking to take more risks for ‘debt plus returns’ benefit rather than sticking to lower but steady income schemes.
Capital protection Funds
If protecting the principal is the priority, Capital Protection Funds serves the purpose while earning relatively smaller returns (12% at best). The fund manager invests a portion of the money in bonds or Certificates of Deposits and the rest towards equities. Though the probability of incurring any loss is quite low, it is advised to stay invested for at least three years (closed-ended) to safeguard your money, and also the returns are taxable.