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What is Floater Fund: Definition, Characteristics, and Types

The interest rate offered by a debt instrument is either fixed or floating. Floater funds invest in instruments that deliver the latter. Check out this post to understand what they are and how they work.

Getting started with Floater Funds

If you are a risk-averse investor wanting to invest in mutual funds, you’d be more inclined towards debt funds as they carry minimal risk. But, even in the debt fund category, there are different types of mutual fund schemes. For instance, there are liquid funds, income funds, gilt funds, dynamic bond funds, and more.

One category of debt funds that is not very popular is floater funds. Investors looking for a secure investment option but still want to earn quality returns can consider investing in these funds. Take a look at what a floater fund is and how it works-

What are Floater Funds?

Investors prefer debt instruments like bonds as they offer fixed returns. They have a fixed interest rate, and once the investment matures, the pre-fixed interest would is paid to the investors. But there are other types of debt instruments that have floating interest rates. This means that the interest rate is not pre-fixed but depends on the changes their benchmark goes through.

Floater funds have more than 65% of their portfolio invested in these debt instruments. These funds aim to benefit from the fluctuating interest rate so that they can generate higher returns for the investors. The annual returns from these funds could range from 7% to 9%. In the last 5-years, floater funds have delivered average returns of 8.27%.

Characteristics and Functioning of Floater Funds

The floating instruments that these funds invest in have their own benchmarks. The interest rate offered by the instrument changes as per the fluctuations in the interest rate of their benchmarks. It is generally seen that as the interest rates increase in the debt market, the interest rate of these floating interest instruments rises too, and the floater funds deliver higher returns.

Fixed interest instruments such as bonds lag in such scenarios as they continue offering fixed interest rates. This is why a large number of investors switch to floater funds when the interest rates are rising as deliver higher returns as compared to fixed-return funds.

Key Things You Should Know about Floater Funds

Some other things one should know about floater funds are as follows-

  • Floater funds are open-ended schemes allowing investments and withdrawals throughout the year

  • If you’d like to invest in floater funds, you will have to make a lump sum investment as the SIP (Systematic Investment Plan) option is not available in floater funds

  • For taxation, floater funds are treated as any other type of debt fund

Types of Floater Funds

Floater funds are of two different types- short-term and long-term. As the name suggests, short-term funds invest in debt securities that have shorter maturities. You will see most such funds investing in high-liquidity instruments such as government securities, deposit certificates, and T-Bills.

Apart from having securities with longer maturities, long-term floater funds are generally known to be more diversified with their portfolio composition. They invest in floating interest instruments along with considerable investments in the money market or fixed interest instruments.

Who Should Invest in Floater Funds?

Now that you know the floater fund meaning, it is time to decide whether or not these funds are the right choice for you.

It is recommended that risk-averse investors wanting to earn returns higher than mutual funds that offer fixed returns should invest in floater funds. But do note that the returns from floater funds depend on the market conditions. The RBI is responsible for adjusting the repo rate as per the economic condition of the country.

So, if the interest rate falls, it is possible that your floater fund investment could deliver returns lower than funds that offer fixed returns. Nevertheless, these funds are not associated with a high level of risk.

If you are aiming to generate annual returns in the range of 7%-9%, floater funds can be an excellent option. But do remember that you need to invest a lump sum amount as these funds do not allow investment through SIPs.