As a new investor starting your journey in the world of mutual funds, you may have come across three broad types of mutual funds. These are equity funds, debt funds and hybrid funds. You can choose to invest in any of these categories depending on your risk appetite, investment horizon and financial goals.
In this article, we list the top benefits of investing in debt funds. But before we touch on it, let us understand what debt funds mean.
What are debt funds?
A debt fund is a mutual fund type that invests in fixed-interest generating securities. These include corporate bonds, government securities, treasury bills, commercial paper and other money-market instruments. You can invest in debt funds to earn interest on income and for capital appreciation.
Benefits of investing in debt mutual funds
Debts funds can be an excellent beginning point for conservative investors who adopt a low to moderate risk tolerance. Following are some benefits of investing in these funds:
Diversification and greater safety
Equity mutual funds tend to be more volatile compared to debt funds. On the other hand, debt funds are steady, and hence, can become a critical component of a well-diversified portfolio given their stable returns. They help manage risk by spreading it across different investments that form part of your portfolio. So, assuming the inflation rate is four to five per cent, and debt mutual funds offer a return of seven to eight per cent, it can be a worthy deal.
Investing your short-term surplus
Debt funds can be the right choice of investment if your investment horizon is short term. Equity funds generally demand investment for three to five years or longer for substantial returns. In the event you have a surplus of short-term cash, you can invest in short-term debt funds to fetch decent returns.
Regular income
Debt mutual funds help you earn a regular income in the form of dividends. Depending on the type of fund, you can choose to receive regular dividends on a daily, weekly, fortnightly, monthly, semi-annually or annually basis.
Liquidity
A debt fund is highly liquid. This means you can withdraw the money from your debt instruments in case of an emergency. The money gets deposited in your bank account within a few days. Some funds may have an exit load if the investment is redeemed within three to six months. Some debt mutual funds may also offer a systematic withdrawal plan which can allow you to withdraw a fixed sum regularly from your investment. This means you can make partial withdrawals without breaking the entire investment.
Great flexibility
Debt funds provide greater flexibility than other traditional platforms of investment such as fixed deposits. You can not only invest small amounts every month by starting SIPs [Systematic Investment Plans] but also shift the money from a debt fund to an equity fund from the same fund house. For example, if you have a lump sum amount to invest in a mutual fund scheme, you can invest it in debt funds and start a SIP to transfer the money to the selected equity scheme.
Higher returns
The returns from debt funds depend on the overall interest-rate movements. If you select the correct type of debt mutual funds based on your risk appetite and investment horizon, you can generate higher returns matching with the prevailing interest rates.
Conclusion
Debt funds are an essential investment instrument if you wish to grow your money. However, before you invest in mutual funds, you may want to carefully consider your risk tolerance, current asset allocation and the market environment.