How Debt Funds Work?
- Asked By
- Updated On:21-Jun-2023
- Replies:2
Short Answer
Debt funds are mutual funds managed by professionals with their money invested in high-rated securities. Just like you lend money to the bank through fixed deposit or while purchasing the bond, a certificate is issued by the borrower. Debt funds also work on the similar concept.
Detailed Answer
Small investors invest their money with the fund house which in turn pools the money and professional fund managers then invest such large amount in high rated securities like government or state government securities, commercial papers, Certificate of deposits, treasury bills etc. An individual cannot invest in such securities but fund house can. Even big businesses also issue their bond wherein individual investor will not be in a capacity to invest but since fund houses have a huge corpus to invest, they can invest into such bonds as well.
Fixed deposits are not transferable or tradable while the bonds in which debt funds invest are freely tradeable and hence it gives them a facility to switch if they do not perform as per the expectation of fund manager. Just like stock market wherein anyone can buy and sell shares; likewise there is a secondary market where bonds freely exchange.
Also, the prices or NAV of the fund may rise or fall. There are various factors for the same, it may be due to interest rate change, changes in stock market etc. If for example, the mutual fund has invested in a bond and its prices go up over the period of time then the fund NAV or prices will go up accordingly. On the other hand, the return may go down which will, in turn, reduce the NAV.
As far as taxation of the debt fund is concerned, if an investor holds debt fund for a period more than 3 years then he will pay tax at the rate of 20% flat on the capital gain. Due to indexation benefit, the actual tax outgo will be less than 20%.
By investing in debt fund systematically and for considering long horizon, the fund can outperform in long run and gives far better returns. I hope the post give you a fair idea on how debt funds work and how you can analyse them for investing you hard earned money.
Ask Your Query for FREE, Get quick answers from our FINTRAKK community!
Discussion (1)
The introduction of Systematic Investment Plan (SIP) in the mutual fund is regarded as one the major breakthrough in the financial sector. It has helped to attract a new class of investors in the sector who were not comfortable to invest a lump sum at a time.
Fixed Deposit (FD) are saving tools offered by banks to deposit lump sum amount for a fixed period of time on a higher interest rate than saving accounts. Mutual funds are investment products which pool money from numerous small investors to create a fund.
Mutual funds are professionally managed investment vehicles that offer numerous categories of funds to investors. To generate regular cash flows or income, investors can use the Systematic Withdrawal Plan or invest in Dividend Payout and Debt funds to receive regular income. Debt funds provide regular interest payouts, whereas dividend payout funds give regular dividends which act as regular income.
Building wealth always seems to be a farfetched idea if you want it quickly. However, if you wish to build it legally, then there are different ways to build wealth. Check them out.
We all look to earn good returns on the money we invest. Putting money in High return investments is one way of generating better income. The different places to get good returns are mutual funds, equity, and gold investment in India.
Liquid funds, a type of mutual funds which invest in different money market instruments. The withdrawals from these funds are processed within 24 hours and that's why these are regarded as liquid assets. The fund manager gets flexibility to meet immediate redemption requests.
Short Term Debt Mutual Funds provide a good alternative to traditional investment and income generating schemes. Often termed as highly liquid assets, short term funds are a common choice when it comes to planning your short-term investments.
Similar to traditional Mutual Funds, Fund of Funds are professionally managed funds that are available in multiple types. Some of the types of FoFs are Gold FoFs, ETF FoFs, International FoFs, Multi-Manager FoFs, and Asset allocation FoFs.
Government securities include both T-Bills (Treasury Bills) and Government bonds which are both short and long-term instruments issued by the Central & State governments for various purposes. Retail investors are allowed to invest in G-Secs provided by the RBI. One can buy them directly from the Stock exchanges in a non-competitive method.
ETFs (Exchange Traded Funds) & Mutual Funds are investment avenues that are managed by a Fund manager and allow Retail investors to invest in them. ETFs are listed on Stock Exchanges, and Mutual Funds are not. Usually, ETFs track an Index or sector whereas Mutual Funds offer a much more variety of Funds from which an investor can choose from. Both of these investment vehicles have their own merits and demerits. One should evaluate their risk profile and goals and choose one of them either. Find out which of these is the better option.
rameetkulkarni
Debt funds are a type of mutual fund that primarily invests in fixed-income securities such as government bonds, corporate bonds, treasury bills, and other debt instruments. They are designed to provide regular income and relatively lower risk compared to equity funds. Debt funds work by pooling money from multiple investors and investing it in a diversified portfolio of debt securities. The fund manager selects and manages the securities in the portfolio based on the fund's investment objective and strategy. The underlying debt instruments generate interest income, which is passed on to the investors in the form of periodic dividends or interest payments. The key features and workings of debt funds are as follows: Investment Objective: Debt funds aim to generate income and preserve capital by investing in fixed-income securities. Risk and Returns: Debt funds are generally considered less risky than equity funds, but they still carry some level of risk. The risk depends on factors such as credit quality, interest rate movements, and liquidity of the underlying securities. Returns from debt funds come from interest income and any capital appreciation of the securities. Diversification: Debt funds diversify their portfolio across various issuers, sectors, and maturities to spread the risk. This diversification helps reduce the impact of defaults or credit risks associated with individual securities. Interest Rate Sensitivity: Debt funds are sensitive to changes in interest rates. When interest rates rise, the value of existing fixed-income securities in the portfolio may decrease, leading to a decline in the fund's NAV (Net Asset Value). Conversely, when interest rates fall, the value of existing securities may increase, positively impacting the NAV. Types of Debt Funds: Debt funds offer different types such as liquid funds, short-term funds, corporate bond funds, gilt funds, and dynamic bond funds. Each type has specific investment objectives and risk profiles, catering to different investor needs. Expense Ratio: Debt funds charge an expense ratio, which covers the fund's operating expenses. It is important to consider the expense ratio while evaluating the fund's returns. Taxation: Debt funds are subject to taxation based on the holding period. Short-term capital gains (holding period less than 3 years) are taxed at the individual's applicable income tax rate, while long-term capital gains (holding period more than 3 years) are taxed at a flat rate with indexation benefits. Debt funds provide an avenue for investors to earn regular income and potentially benefit from capital appreciation while managing risk. It is advisable to assess the investment objective, risk profile, and investment horizon before investing in debt funds. Consulting with a financial advisor can help in selecting the right debt fund that aligns with individual financial goals and risk tolerance. To start investing now, visit https://bit.ly/43cjx4T