As the equity market is pretty volatile these days, debt is the flavor of the season. Low-Risk investors are always generally advised Debt funds or Debt based hybrid funds.
However, there are certain points to remember before investing in a debt market.
Let us have a look at them:-
- Credit Risk:
Credit risk is the probable risk of loss resulting from a borrower’s failure to repay a loan or meet contractual obligations. All debt funds have fixed income or money market instruments like government securities, bonds, treasury bills, CODs, commercial papers etc. All these investment avenues, bring with them their own type of risk.
Say for instance, when the underlying instruments are government bonds and treasury bills, the fund is considered quite safe. However, if there are Company bonds or other than government bonds, then there may lie a credit risk on the funds. As an investor, you should be aware of underlying assets of the debt fund in which you wish to invest.
- Time Horizon of Investment:
It is a known fact that Equity funds should be opted when an investor wishes to stay invested for a long period of time. However, when it comes to debt fund, there are too many options available with respect to time horizon of investments.
For example, you have liquid & ultra-short term funds to invest into, if your time horizon of investments are less than 6 months. Further, you can opt for investment into low duration & short term funds, if your tenure of investment is less than 3 years. Going ahead, for an investment horizon beyond 3 years, you have the option to invest into medium & long term debt funds, including gilt funds. Also, there are certain funds which are close ended and have fixed lock-in period. So before investing, make sure you understand the time horizon of the debt fund in which you wish to invest.
- Exit Load:
Exit load is a fee or an amount charged from an investor for exiting or leaving a scheme or the company as an investor before a specified period of time. Generally, some of the schemes come with exit load of say 1% of the corpus, if you exceed before a certain period of time from the date of first investment made. For e.g., some schemes have no lock-in period, but indirectly they charge you 1% of your invested value if you redeem the units before 12 months of investments.
Liquidity risk is the risk that stems from the lack of marketability of an investment that cannot be bought or sold quickly enough.
There are certain debt fund which are open ended which provides easy liquidity to the investor to buy or sell the units at their discretion. For example, liquid funds allow redemption within a day of investing. However, there are also certain close ended funds, where the investor needs to stay invested till the duration of the fund.
As an investor, you should choose funds based on the need of your funds. If you do not have any short time requirement of funds, then you can opt for close ended funds, whereas if you have short term needs, then you can opt for liquid funds, which provide interest better than savings interest and helps in easy redemption of funds.
- Scheme Specific Risk:
Specific risk, is the risk of losing an investment due to company or industry-specific hazard. When you invest in a fund which pertains to a specific industry, there are chances of risking your funds. For example, years ago when mutual funds launched Gilt funds, there was a mad rush amongst the investors to invest in gilt funds, assuming that there is no risk in gilt funds since they are government funds.
However, it should be noted that when such funds are traded in the market, there is huge fluctuations in their trading price, leading to gains or losses in the fund’s portfolio. Thus, it is important that an investor choses the fund wisely and allocates their asset in different sectors.
- Fund Manager’s Risk:
A fund manager is responsible for implementing a fund’s investing strategy and managing its portfolio trading activities. A fund can be managed by one person, by two people as co-managers, or by a team of three or more people.
Sometimes, the fund manager may not be able to read a market direction rightly, leading to under performance of fund in which you are invested.
Thus, it is important you understand the background and credentials of the fund manager before you invest in a debt fund.
That being said, let’s have a look at the category-wise performance of debt mutual funds:
|CATEGORY OF FUND||NAME OF THE FUND||1 YEAR RETURNS||3 YEAR RETURNS||5 YEAR RETURNS|
|Liquid||Invesco Contra Money Market Fund||7.03||7.39||8.31|
|Ultra Short Term||Franklin Ultra Short Bond Fund||7.61||8.85||9.44|
|Ultra Short Term||BOI AXA Ultra Short Duration Fund||7.26||8.27||8.83|
|Low Duration||Franklin India Low Duration Fund||7.18||8.86||9.44|
|Short Duration||Franklin India Short Term Income Fund||6.51||8.17||9.30|
|Short Duration||Baroda Pioneer Short Term Bond Fund||6.19||8.07||8.80|
We, at RichVik, ensure to minimize all of the above mentioned risks for our clients and present them a financial plan, after studying all their financial goals and needs.
If you wish to know more about investments in a debt fund, feel free to contact us.