TOI Debt Funds

Dear Friend,

Attached herewith is my article in Times of India (National Edition, 16 Dec 2014, Tuesday) on merits of investing in debt funds at this juncture. With the interest rates poised to move southwards, debt funds are likely to give high returns in the next 2-3 years while being safe, tax-efficient and very liquid. Debt mutual funds have large number of benefits in addition to higher possible returns:

They are quite tax-efficient.
They are more liquid than bank FDs, post office instruments, NSCs, PPF etc.
Liquid funds are another amazing product which work like a savings bank, making your money available to you within one working day, while giving you more than double the returns of a savings bank.
Debt funds are very flexible. You can add more money to them any time, invest through SIPs regularly, withdraw fully or partially any time or even take monthly returns like a pension plan.
While you may not realise it, your debt fund itself is a safe, diversified portfolio. It could be investing in various debt instruments of the Government, banks and corporates at any given time and these themselves could be of varying durations of maturity to further spread the risks and get better returns.
You can seamlessly shift the money from a debt fund to an equity fund or any other scheme from the same fund house fully or partially.

Do not leave Debt Mutual Funds out of your portfolio

With the stock markets on a roll, a lot of investors are warming up to investing into stocks and equity mutual funds with high expectations. However, this still leaves a big class of people out in the cold. Those who are risk averse or do not wish to take risks with their money due to certain reasons, do not share any excitement of stock market euphoria. Downward trend of the interest rate is bad news for them as they get still lesser interest on their safe investments. How do Acche Din come for them?

While most fixed rate investments tend to lose when interest rates drift down, long-term Debt Mutual Funds gain. Their current high interest rate yielding holdings like Bonds, NCDs, Government Securities (G-Secs), Corporate Debt instruments, Certificate of Deposits (CDs) and Commercial Papers (CPs) will rise in value as the general interest rates decline and newer paper coming to the market is issued at lower interest rates. Keen observers of this phenomenon would have already noticed many long term debt funds yielding more than 10% annualised returns. With the inflation drifting down and RBI feeling comfortable with its long-term trend, interest rates are likely to begin their downward journey and long-term debt funds will see their returns rise further.

Debt mutual funds have other benefits in addition to higher possible returns:

They are quite tax-efficient. As per Budget 2014, indexation benefits are available for investments in debt funds if invested for more than 3 years. Going by the past trends, beyond 3 years, there is likely to be almost Nil tax on their gains.
They are more liquid than bank FDs, post office instruments, NSCs, PPF etc. Money can be withdrawn fully or partially any time and would be there in the bank account of the holder within 1-3 days.
Debt funds give the investing reins in your hands unlike other traditional safe avenues. Here you can decide whether you to go in for short term funds and thus have returns with almost no risk or take the interest rate risks and go for higher returns given by long-term debt funds.
Liquid funds are another amazing product which work like a savings bank, making your money available to you within one working day, while giving you more than double the returns of a savings bank.
Debt funds are very flexible. You can add more money to them any time. This addition can also be done in a regular manner in the nature of a Systematic Investment Plan (SIP) which could be as less as Rs 1000 per month, and this amount can also be increased at will. Can you imagine opening a fixed deposit every time you have an extra Rs 2,000-3,000 in your bank account? Similarly, you can start a Systematic Withdrawal Plan (SWP) to withdraw a predetermined sum from your investment every month. This is particularly useful for retirees who want a fixed income every month. You can also change the amount of the SWP whenever you want.
You do not lose a single day’s return even if you do not monitor it. Say you have a FD which has matured and you have not found the time either to renew or take it out. You do not get any interest on this amount, except the nominal savings bank rate, if it is lying in your savings account. In open-ended debt funds, there is no concept of maturity and capital appreciation occurs till you actually take it out.
While you may not realise it, your debt fund itself is a very diversified portfolio. It could be investing in various debt instruments of the Government, banks and corporates at any given time and these themselves could be of varying durations of maturity to further spread the risks and get better returns.
You can seamlessly shift the money from a debt fund to an equity fund or any other scheme from the same fund house fully or partially. Thus, if you are invested in a debt fund and feel that you need to take some exposure of equity, you can simply shift some part of it in one or more lots, or at regular intervals through a Systematic Transfer Plan (STP). Vice versa is also possible with the same ease when you think that you need to get out of the equity fully or partially or when you wish to preserve the gains made in equity mutual funds.

However, to assume that there are no risks associated with such funds would be incorrect. In case the interest rates do not move down as quickly or in the manner anticipated, there could be stagnant returns. There could be exit loads if one has to withdraw the money earlier than was originally planned for and there could also be taxation on the profits made if the money is withdrawn before 3 years.

Overall, Debt mutual funds are a great investment option for the part of your portfolio where you do not wish to take the risk associated with equity. In spite of being very safe, they give a lot of power to the investor in terms of liquidity, returns and flexibility.