Mutual funds have garnered a lot of popularity in recent years thanks to the effort of stakeholders like the association of mutual funds in India (AMFI). But what sets mutual funds apart is the ease at which you can invest in them. Moreover, they provide a way to invest in securities that are otherwise hard to manage.
Mutual funds also give plenty of choices to investors. For example, if you are an aggressive investor, you could consider investing in equity mutual funds as they largely invest in stocks of different companies.
But what if you are a conservative investor? A debt fund is something you can consider here. But what are debt funds? How do they work? Let us find out.
What are debt funds?
Debt funds are mutual funds that primarily invest in debt securities. Debt securities are fixed-income securities that generate income regularly. They are often not market-linked; hence, they come with lesser risk. Indians are mostly conservative when it comes to investors. According to the 2022 consumer outlook, less than 10% of investors plan to invest in equities or similar investment options. Hence, debt funds are an ideal option for conservative investors.
How do debt securities work?
To understand debt funds, you have to first understand debt securities. Bonds are one of the most popular examples of debt securities. Let us explore how bonds work to understand this better.
A bond is a debt instrument issued by an entity when they need money. This money is raised directly from retail investors when entities choose against opting for a bank loan or an equity raise.
Bonds are sold units to retail investors. A fixed number of units consists of a lot. You are required to buy at least one lot in most cases. The money you pay to buy a lot is the money that you lend to the entity that issues the bond. You will continue receiving a fixed interest payment for your borrowed money. Every bond has a maturity period. The interest payment will continue till this maturity period. Once the bond matures, the initial deposit amount will be distributed back to the investor in most cases.
What makes bond investment a wise option is its conservative nature and predictability. The least amount of risk is associated with buying a bond since it is not market-linked. The risk can be compared to that of a fixed deposit. Furthermore, bond investments are highly predictable, making planning easy too.
Advantages of investing in debt funds
Investing in debt funds has certain advantages. Below are some of the advantages listed.
Stability – Investing in debt funds offers stability to your investments. This is because the quantity of market-linked securities in debt funds is limited. Instead, like in the example of bonds above, they offer you stable investments. Furthermore, debt securities are least affected by market movements. These factors make debt funds one of the most stable investment options.
Liquidity
The relatively high liquidity of debt mutual funds or fixed-income funds in India is one of their main advantages. Your debt fund is available for withdrawal at any moment, and you’ll have the money in your bank account in about 24 hours. Debt funds are useful for sudden financial demands.
Tax benefits
The fact that borrowed money is not taxed annually is another advantage. You can benefit from indexation, and a lower tax rate on returns, and the tax is only assessed if you withdraw money from your debt fund account.
Conclusion
Debt funds are an investment option that can be useful for multiple purposes. But ensure that you invest in a debt fund according to your goals for the best results.