- Date : 01/06/2023
- Read: 8 mins
Selecting a debt fund from 16 sub-categories can be a challenging task for a retail investor. In this article, we demystify debt funds, their types, and list the top-performing debt funds.
With inflation booming these days, the markets expect the RBI to start monetary policy normalisation in the coming months. The debt markets expect the RBI to withdraw the excess liquidity first and then start hiking rates gradually. This has led to the 10-year G-secs (Government securities) moving up around the 6.05%-6.10% range.
In a rising rate scenario, investors should consider short-term debt funds for investment as the volatility in these funds is low compared to long-term debt funds. The returns from debt funds will be moderate to low as the scope for capital gains is limited in a rising interest rate scenario. Investors may also consider investing in floating rate funds as they will benefit whenever interest rates rise.
The top-rated Debt Mutual Funds you should invest in India in June 2023, including Aditya Birla Sun Life Medium Term Plan with yearly returns of 24.04%, Bank of India Short Term Income Fund which gives you 13.24% returns for a year, Nippon India Nivesh Lakshya Fund that provides returns of 12.32%, Aditya Birla Sun Life Dynamic Bond Fund giving you 10.11% returns, etc.
Best debt mutual funds for investment in India
(Source: https://www.valueresearchonline.com/)
Debt mutual funds – FAQs
1) What are debt mutual funds?
A debt mutual fund is a scheme that invests in a mix of debt instruments or fixed income instruments such as treasury bills (T-bills), Government securities (G-secs), corporate bonds, commercial papers (CPs), etc. The choice of securities and their tenure depends on the objective of the debt mutual fund scheme.
From an individual investor’s point of view, debt mutual funds add stability to their investment portfolio against the volatility brought by the equity portion of the portfolio. Investors can invest in debt mutual funds for short- to medium-term financial goals. Debt mutual funds are suitable for investors who are risk-averse and looking to generate a regular income.
2) What are the different types of debt funds?
The debt mutual fund category is a very large category with several sub-categories. SEBI has divided this into 16 sub-categories. Broadly, debt funds can be classified into short-term, medium-term, and long-term debt funds.
3) What is Macaulay duration?
SEBI has done the categorisation of most types of mutual funds based on Macaulay duration. Macaulay duration is the measure of how long it takes for an investor to get back the money they invested (price paid) in a bond with its cash flows (periodic interest repayments and principal repayment). Measured in years, the Macaulay duration of a debt mutual fund scheme is the weighted average Macaulay duration of the debt securities that the scheme holds in its portfolio.
4) What are short-term debt funds?
A short-term debt fund is an open-ended scheme that invests in debt and money market securities with either (a) residual maturity of up to 3 years or (b) such that the Macaulay duration of the portfolio is up to 3 years. Based on the above parameters, short-term debt funds can be further sub-categorised into the following types:
- Overnight Fund: These are open-ended schemes that invest in overnight securities having a maturity of 1 day.
- Liquid Fund: These are open-ended schemes that invest in debt and money market securities with a maturity of up to 91 days only.
- Ultra Short Duration Fund: These funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is between 3-6 months.
- Low Duration Fund: These funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is between 6-12 months.
- Money Market Fund: These funds invest in money market instruments having a maturity of up to 1 year.
- Short Duration Funds: These funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is between 1-3 years.
5) What are medium and long duration debt funds?
Medium duration funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is 3-4 years. In the case of medium- to long-duration funds, the Macaulay duration is 4-7 years. And in the case of long duration funds, the Macaulay duration of the portfolio is greater than 7 years.
6) What are the other types of debt funds?
- Corporate Bond Fund: These funds invest a minimum of 80% of total assets in corporate bonds (highest rated instruments).
- Credit Risk Fund: These funds invest a minimum of 65% of total assets in corporate bonds (below highest rated instruments).
- Banking and PSU Fund: These funds invest a minimum of 80% of total assets in debt instruments of banks, public sector undertakings, and public financial institutions.
- Gilt Fund: These funds invest a minimum of 80% of total assets in Government securities (across maturity).
7) What are liquid funds?
A liquid fund is an open-ended mutual fund scheme that invests in debt and money market securities with a maturity of up to 91 days. Some of the securities that a liquid fund invests in include Treasury Bills (T-bills), Commercial Papers (CPs), Certificates of Deposit (CDs), etc. A liquid fund aims to provide steady returns to its investors along with liquidity.
Some mutual fund houses provide the instant redemption option to investors under the liquid mutual fund scheme. As per the instant redemption option, the money redeemed is transferred to the investor’s bank account instantly through IMPS. However, the amount that can be redeemed under this option is limited to a certain percentage (say, 90%) of the investor’s balance subject to a maximum amount (say, Rs 50,000).
Liquid mutual fund schemes are most suitable for investors to accumulate and maintain their emergency fund. An emergency fund should ideally be equivalent to 3-6 months’ expenses.
8) Who should invest in debt mutual fund schemes?
If you are a risk-averse investor looking for regular returns, you can choose to invest in a debt mutual fund scheme. A debt mutual fund scheme is less volatile and less risky than an equity mutual fund scheme. If your investment time horizon is more than three years, and if you have to choose from fixed deposits and debt funds, the latter is a better choice from a taxation point of view. Debt funds are more tax-efficient as they give you the benefit of indexation.
9) What is the process of investing in debt mutual funds online?
You can invest in a debt mutual fund scheme online through the AMC website. It is the simplest and easiest way of investing, and can be done from the comfort of your home.
To invest online, take the following steps:
- Register on the AMC website.
- The system will check if you are KYC compliant. If you are KYC compliant, the system will proceed further. If not, you will have to complete your KYC before you can proceed. You can do your KYC online through the e-KYC process.
- Enter your bank details to debit the lumpsum or SIP amount. The AMC will use the same bank account details for credit of redemption proceeds.
- You can now proceed to invest in a specific scheme. Select the scheme name, direct or regular plan, lumpsum / SIP investment. If you choose SIP, you have to select the amount, frequency (for example, weekly, monthly, etc.), the bank account details for the debit of SIP amount, the debit date, and the period for which SIP will continue.
- Filling in the above details and submitting them will complete your investment.
You can log in regularly to your account to monitor the credit of scheme units, the NAV, and check your progress towards your financial goals.
10) How are debt mutual funds taxed?
Debt mutual funds are taxed depending on your holding period, as below:
- Short-term capital gains (STCG): If the holding period of debt mutual fund units is up to three years (36 months), the profits are classified as short-term capital gains (STCG). STCG is added to your overall income and taxed as per your income tax slab.
- Long-term capital gains (LTCG): If the holding period of debt mutual fund units is more than three years (36 months), the profits are classified as long-term capital gains (LTCG). LTCG is taxed at 20% with indexation benefit.
11) How should an investor select a debt mutual fund for investment?
An investor should select a debt mutual fund for investment based on the following parameters:
- Investment time horizon: If your investment time horizon is up to 3 years, you should choose from the various short-term debt schemes. These include overnight fund, liquid fund, ultra short duration fund, low duration fund, money market fund, short duration fund, etc. If your investment time horizon is 3-7 years, you may choose a medium-term debt scheme, and if your investment time horizon is more than seven years, you may choose a long-term debt scheme.
- Investment objective: Depending on your investment objective, the choice of debt mutual fund scheme will vary. For example, if you want to build and maintain an emergency fund, you should go for a liquid fund. If the safety of money is the top-most priority, you should choose a gilt fund. If you are willing to take a slightly higher risk for more returns, go for a corporate bond fund. If you are willing to take even more risk for higher returns, you can go for a credit risk fund. The objective of each of these funds is different. So, choose a scheme depending on your investment objective.
With inflation booming these days, the markets expect the RBI to start monetary policy normalisation in the coming months. The debt markets expect the RBI to withdraw the excess liquidity first and then start hiking rates gradually. This has led to the 10-year G-secs (Government securities) moving up around the 6.05%-6.10% range.
In a rising rate scenario, investors should consider short-term debt funds for investment as the volatility in these funds is low compared to long-term debt funds. The returns from debt funds will be moderate to low as the scope for capital gains is limited in a rising interest rate scenario. Investors may also consider investing in floating rate funds as they will benefit whenever interest rates rise.
The top-rated Debt Mutual Funds you should invest in India in June 2023, including Aditya Birla Sun Life Medium Term Plan with yearly returns of 24.04%, Bank of India Short Term Income Fund which gives you 13.24% returns for a year, Nippon India Nivesh Lakshya Fund that provides returns of 12.32%, Aditya Birla Sun Life Dynamic Bond Fund giving you 10.11% returns, etc.
Best debt mutual funds for investment in India
(Source: https://www.valueresearchonline.com/)
Debt mutual funds – FAQs
1) What are debt mutual funds?
A debt mutual fund is a scheme that invests in a mix of debt instruments or fixed income instruments such as treasury bills (T-bills), Government securities (G-secs), corporate bonds, commercial papers (CPs), etc. The choice of securities and their tenure depends on the objective of the debt mutual fund scheme.
From an individual investor’s point of view, debt mutual funds add stability to their investment portfolio against the volatility brought by the equity portion of the portfolio. Investors can invest in debt mutual funds for short- to medium-term financial goals. Debt mutual funds are suitable for investors who are risk-averse and looking to generate a regular income.
2) What are the different types of debt funds?
The debt mutual fund category is a very large category with several sub-categories. SEBI has divided this into 16 sub-categories. Broadly, debt funds can be classified into short-term, medium-term, and long-term debt funds.
3) What is Macaulay duration?
SEBI has done the categorisation of most types of mutual funds based on Macaulay duration. Macaulay duration is the measure of how long it takes for an investor to get back the money they invested (price paid) in a bond with its cash flows (periodic interest repayments and principal repayment). Measured in years, the Macaulay duration of a debt mutual fund scheme is the weighted average Macaulay duration of the debt securities that the scheme holds in its portfolio.
4) What are short-term debt funds?
A short-term debt fund is an open-ended scheme that invests in debt and money market securities with either (a) residual maturity of up to 3 years or (b) such that the Macaulay duration of the portfolio is up to 3 years. Based on the above parameters, short-term debt funds can be further sub-categorised into the following types:
- Overnight Fund: These are open-ended schemes that invest in overnight securities having a maturity of 1 day.
- Liquid Fund: These are open-ended schemes that invest in debt and money market securities with a maturity of up to 91 days only.
- Ultra Short Duration Fund: These funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is between 3-6 months.
- Low Duration Fund: These funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is between 6-12 months.
- Money Market Fund: These funds invest in money market instruments having a maturity of up to 1 year.
- Short Duration Funds: These funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is between 1-3 years.
5) What are medium and long duration debt funds?
Medium duration funds invest in debt and money market instruments such that the Macaulay duration of the portfolio is 3-4 years. In the case of medium- to long-duration funds, the Macaulay duration is 4-7 years. And in the case of long duration funds, the Macaulay duration of the portfolio is greater than 7 years.
6) What are the other types of debt funds?
- Corporate Bond Fund: These funds invest a minimum of 80% of total assets in corporate bonds (highest rated instruments).
- Credit Risk Fund: These funds invest a minimum of 65% of total assets in corporate bonds (below highest rated instruments).
- Banking and PSU Fund: These funds invest a minimum of 80% of total assets in debt instruments of banks, public sector undertakings, and public financial institutions.
- Gilt Fund: These funds invest a minimum of 80% of total assets in Government securities (across maturity).
7) What are liquid funds?
A liquid fund is an open-ended mutual fund scheme that invests in debt and money market securities with a maturity of up to 91 days. Some of the securities that a liquid fund invests in include Treasury Bills (T-bills), Commercial Papers (CPs), Certificates of Deposit (CDs), etc. A liquid fund aims to provide steady returns to its investors along with liquidity.
Some mutual fund houses provide the instant redemption option to investors under the liquid mutual fund scheme. As per the instant redemption option, the money redeemed is transferred to the investor’s bank account instantly through IMPS. However, the amount that can be redeemed under this option is limited to a certain percentage (say, 90%) of the investor’s balance subject to a maximum amount (say, Rs 50,000).
Liquid mutual fund schemes are most suitable for investors to accumulate and maintain their emergency fund. An emergency fund should ideally be equivalent to 3-6 months’ expenses.
8) Who should invest in debt mutual fund schemes?
If you are a risk-averse investor looking for regular returns, you can choose to invest in a debt mutual fund scheme. A debt mutual fund scheme is less volatile and less risky than an equity mutual fund scheme. If your investment time horizon is more than three years, and if you have to choose from fixed deposits and debt funds, the latter is a better choice from a taxation point of view. Debt funds are more tax-efficient as they give you the benefit of indexation.
9) What is the process of investing in debt mutual funds online?
You can invest in a debt mutual fund scheme online through the AMC website. It is the simplest and easiest way of investing, and can be done from the comfort of your home.
To invest online, take the following steps:
- Register on the AMC website.
- The system will check if you are KYC compliant. If you are KYC compliant, the system will proceed further. If not, you will have to complete your KYC before you can proceed. You can do your KYC online through the e-KYC process.
- Enter your bank details to debit the lumpsum or SIP amount. The AMC will use the same bank account details for credit of redemption proceeds.
- You can now proceed to invest in a specific scheme. Select the scheme name, direct or regular plan, lumpsum / SIP investment. If you choose SIP, you have to select the amount, frequency (for example, weekly, monthly, etc.), the bank account details for the debit of SIP amount, the debit date, and the period for which SIP will continue.
- Filling in the above details and submitting them will complete your investment.
You can log in regularly to your account to monitor the credit of scheme units, the NAV, and check your progress towards your financial goals.
10) How are debt mutual funds taxed?
Debt mutual funds are taxed depending on your holding period, as below:
- Short-term capital gains (STCG): If the holding period of debt mutual fund units is up to three years (36 months), the profits are classified as short-term capital gains (STCG). STCG is added to your overall income and taxed as per your income tax slab.
- Long-term capital gains (LTCG): If the holding period of debt mutual fund units is more than three years (36 months), the profits are classified as long-term capital gains (LTCG). LTCG is taxed at 20% with indexation benefit.
11) How should an investor select a debt mutual fund for investment?
An investor should select a debt mutual fund for investment based on the following parameters:
- Investment time horizon: If your investment time horizon is up to 3 years, you should choose from the various short-term debt schemes. These include overnight fund, liquid fund, ultra short duration fund, low duration fund, money market fund, short duration fund, etc. If your investment time horizon is 3-7 years, you may choose a medium-term debt scheme, and if your investment time horizon is more than seven years, you may choose a long-term debt scheme.
- Investment objective: Depending on your investment objective, the choice of debt mutual fund scheme will vary. For example, if you want to build and maintain an emergency fund, you should go for a liquid fund. If the safety of money is the top-most priority, you should choose a gilt fund. If you are willing to take a slightly higher risk for more returns, go for a corporate bond fund. If you are willing to take even more risk for higher returns, you can go for a credit risk fund. The objective of each of these funds is different. So, choose a scheme depending on your investment objective.
