Types of Debt Funds

Today, debt funds have emerged as one of the most popular mutual funds in the country. They offer stability and flexibility with low risk and are, hence, considered a favourite among conservative investors. Now, the question arises: which type of debt fund is optimal for you and your financial goals?

What are debt funds?

Mutual funds are one of the most popular and preferred modes of investment for new as well as experienced investors. It is largely due to the diversification they offer as well as the regular returns. Since there are different types of debt funds to choose from, you should make a sensible choice and find what will work best for you.

Before we delve deeper, let’s look at some of the key benefits of debt funds.

Benefits of Debt Funds

  • Many types of debt mutual funds are not affected by market volatility and thus is one of the best investment options available to protect yourself against volatile and unpredictable market events.

  • Debt funds offer better returns than savings accounts or bank FDs

  • They offer low risk with high stability.

  • Apt for new investors with low-risk appetite

  • You can redeem your investment as and when you need it, making them highly liquid securities.

  • Best option to achieve investment goals because of the fixed maturity period and steady returns

Top 8 Debt Fund Types

Now that you know its benefits, here are some types of debt funds you should know:

  1. Short-Term Funds

    As the term suggests, short-term debt funds have a shorter maturity period ranging from 1 to 3 years. They invest in government securities, debt, and money market instruments. Short-term debt funds may be best suited for those with low to moderate risk appetites. These funds perform best when the interest rates are high. If you have money to invest from 9 to 12 months and have a low-to-moderate risk appetite, short-term funds can be a great investment option.

  2. Ultra Short-Term Funds

    These funds also come with short maturity periods, usually for less than a year. While a major part of the amount gets invested in ultra-short-term debt securities, a small portion is also invested in long-term securities. Ultra short-term funds come with low risk and may be the best investment option for those with a 1-12 month horizon.

  3. Income Funds

    Income debt funds invest in debt securities with varying maturity periods, but mostly for the long term. The average maturity period of income funds is around 5-6 years. Income funds invest in government securities and corporate bonds, taking into account the changing interest rates.

    Thus, those with a slightly high-risk appetite and longer investment horizons may be best suited for income debt fund investment.

  4. Liquid Funds

    Liquid debt funds can be converted into cash easily and have a very low maturity period of 91 days. The low maturity period makes them risk-free, but they also provide the most stable returns. The investment is made in Treasury Bills, CDs, or Certificate of Deposit.

  5. Dynamic Bond Funds

    Dynamic Bond Funds move dynamically across long-term and short-term funds with different maturity profiles. The funds move across all classes of debt and money market instruments taking into account fluctuating interest regimes. Those with medium to high-risk appetites may consider investing in dynamic bond funds.

    Those with medium to high-risk appetite may consider investing in dynamic bond funds.

  6. Gilt Funds

    Gilt debt funds only invest in securities issued by central and state governments. The maturity period ranges from medium to long-term. Since gilt funds are government-issued debt funds, there is no credit risk, and your capital remains safe. It doesn’t mean there are zero risks with gilt funds because government securities are vulnerable to changes in interest rates.

    Gilt funds are suitable for those who are willing to invest long-term and prefer government-backed investment options.

  7. Fixed Maturity Plans

    As the term suggests, Fixed Maturity Plans or FMPs have a fixed locked-in period. It could range from months to years. Because of the lock-in period, the FMPs are not affected by changing interest rates. So, the NAV or the Net Asset Value of the fund remains the same. Fixed Maturity Plans are close-ended and tax-efficient and are regarded to be the best alternative to fixed deposits.

  8. Credit Opportunities Funds

    Credit opportunities funds invest in different instruments. The investments range from short-term to long-term with the goal of maximizing profits. These debt funds are apt for those who aim for higher returns but are willing to take some risk.

Choosing the best Debt Fund

In order to choose the optimal debt fund for you, it is important to take into account various factors, including the risk, the returns, the fee, the maturity period of the funds, and the tax on gains.