Best Debt Funds for 2018

Debt funds are mutual funds that invest in money market instruments such as bonds, treasury bills, etc. These terms basically mean that they lend money and earn interest on the money they have lent. Unlike equity mutual funds, debt funds are associated with a lot less risk. Their returns are also much more stable when compared to equity funds.

The returns of a debt mutual fund comprises of –

• Interest income
• Capital appreciation / depreciation in the value of the security due to changes in market dynamics

Best Debt Mutual Funds available to suit the needs of different investors, vary based on their:

• Investment horizon
• Ability to bear risk

Investors need to be clear on their time horizon of investment when selecting the best Debt fund for their investment and also factor in the interest rate scenario.

Liquid Funds and ultra-short term funds may be relevant, for investors with a very short holding period, say for a couple of days to a month. Short- term fund would be desirable for investors with the time horizon of one to three years. For longer tenors, for more than 3 years, long-term debt funds are the most preferred instruments by investors, especially during falling interest rates. Above all, debt funds have proved to be less risky than equities when looking for short-term investments, however, the volatility of long-term income funds may match that of equities.

Debt mutual funds offer various options to invest. Below we have listed various best debt funds to invest across the various categories of debt funds – Best Liquid Funds, best ultra-short-term funds, best short-term funds, best long-term funds and best Gilt Funds to invest in 2018 – 2019.

HOW TO EVALUATE DEBT MUTUAL FUNDS
It’s important to consider the following parameters while choosing an appropriate Debt Mutual Fund –

• Debt Mutual Fund generally specify an investment horizon, for which investors should consider investing. For optimum risk adjusted returns in the debt fund, the specific investment horizon should be looked.
• The?debt fund Portfoliogives a list of the instruments the fund?s portfolio has currently invested in, the portfolio can be indicative of the strategy employed by the fund.
• Average portfolio maturityindicates the length of time until the principal amount of the bond is repaid.
• Duration of the portfolioindicates the price sensitivity of the portfolio to a given change in interest rates; a measure of the fund’s volatility.
• The?yieldis a measure of the interest income generated on the bonds held in the portfolio.
• The?maturity profilehelps understand what percentage of the funds assets invest in which maturity bonds, and to what extent the fund is exposed to the interest rate risk. In a falling interest rate scenario, debt funds maintain relatively higher portfolio maturities and vice versa.
• The Credit profile of the debt portfolio indicates the level of credit risk that the debt fund has ass Returns can potentially enhanced by lowering?credit qualityof the portfolio, which enhances the?credit risk.

The above graph is representational of the rating profile of a debt fund, as presented in a mutual fund fact sheet.

REASONS TO INVEST IN DEBT MUTUAL FUNDS

While you focus on equity mutual funds for wealth creation, let us also look at how debt funds can play a bigger role in your portfolio.

• Good start

Debt funds are a good option to you if you are beginning your mutual fund investments and not sure if you would be ok with equity mutual funds.

• The power of asset allocation

It is not a good idea to be at 100% equity allocation at all the time. Investing in debt mutual funds increases your asset allocation.

• Opportunities

If you invest in debt funds, when the equity markets present opportunities during crash, it will be much easier to move the money from debt funds to equity funds via a simple switch.

• Easy Liquidity

Most of these funds do not have any entry load, exit load or lock in period. This makes it very convenient to get money available at call within just one working day.

• Risk to Capital Loss

In comparison to equity investing, investment in debt mutual funds is lesser exposed to the risk of capital loss due to lesser volatility.

• Investment for Short Term

If you need to park your money for a short period, you cannot do so by investing in equity stocks or equity MFs. There are various categories of debt mutual funds, which can be used for this purpose.

ARE DEBT MUTUAL FUNDS RISKY?

Debt mutual fund means these products invest in debt instruments that may or may not be SAFE. The debt instruments are also volatile. “Most investors think that debt mutual funds mean no risk. This is completely a wrong belief; debt mutual fund schemes have their own set of risks.? While investing in a debt mutual fund scheme, investors should be careful about major risks associated with them:

• Interest Rate Risk

Interest rate risk refers to a change in the price of a bond due to the change in the prevailing interest rate. Interest rates and prices of the debt instruments have an inverse relationship. When rates move up prices fall and vice-versa.

• Credit Risk

Credit risk refers to the credit worthiness of the issuer of a bond. In other words, it is the risk that a company may not meet its debt obligations. Credit risk takes into account whether the bond issuer is able to make timely interest payments and also the face value at the time of maturity of the bond. If the issuer is unable to do so, the bond is said to be in default.

• Liquidity Risk

Liquidity is the ease with which a fund manager can sell a particular security in the market. A fund faces liquidity risk if the fund manager is not able to do so due to lack of demand for the security.