The one predictable thing about financial markets is their constant state of change. If you have been investing in the debt funds market, chances are you have heard about Gilt Funds.
But many retail investors try to steer clear of them due to a lack of understanding about this product. We have compiled a list of questions to help you understand what Gilt Funds are and how they work. Let’s explore!
What are Gilt Funds?
Gilt Funds are Mutual Funds that invest only in Government securities or G-Secs. Unlike other debt funds that invest in a host of debt-related instruments such as treasury bills, corporate bonds, money market instruments, etc., Gilt Funds invest only in securities issued by the Reserve Bank of India (RBI).
Depending on their investment horizon, there are two types of Gilt Funds- long-term Gilt Funds and short or mid-term Gilt Funds. Short-term funds invest money in government securities which usually mature in the next 15-18 months and are of shorter duration.
However, long-term Gilt funds invest in G-Secs with maturities up to 30 years. In contrast to short-term Gilt Funds, longer-maturity gilt funds respond more actively to interest rate changes as higher the maturity of g-secs, higher is the susceptibility to interest rate changes.
Additional Reading: Types Of Mutual Funds
When should you invest in gilt funds?
As a retail investor, Gilt Funds give you the option to invest in government securities or G-Secs. These funds have an inverse relation with interest rates. This means any fall in interest rates will lead to increase in bond prices, benefiting the performance of Gilt Funds and vice versa.
So, whenever there is a chance for interest rates to fall, it bodes well for the debt funds market including Gilt Funds. Any slowdowns in GDP, rising inflation, or decline in industrial production – all are parameters that can lead to changes in the interest-rate situation.
Therefore, it’s good to keep some part of your portfolio in Gilt Funds to make use of any falling interest rates. But, prior to investing in these funds, it’s advisable to assess your risk-taking capacity, financial goals, and fund’s track record.
Are Gilt Funds risk-free?
Many people misguidedly believe that Gilt Funds are risk-free investments as they invest only in Government securities. But, that’s not true!
Always remember that the Government securities are risk-free only with respect to interest and principal payments. Since the government typically doesn’t default unlike a corporate, Gilt Funds don’t carry any credit risk. But like any other bond funds, they do carry interest-rate risk.
Who should invest in Gilt Funds?
If you understand debt markets really well, then Gilt Funds can be a good investment option for you. If you expect interest rates to fall, then a small exposure to gilt funds could be a smart choice.
For example, if the interest rates start falling these schemes will return the most among the debt category. However, once the rates start increasing, they will start to underperform. So, it’s important to know when to get into them and get out, to maximise returns.
Generally, these funds move the most of all debt funds when the interest rate fluctuates. Do remember that in such times, you make money only when you actually withdraw your money and encash.
You should also consider your investment horizon and appetite for risk before investing. If you hold the fund for the stated average maturity, you will earn the yield on the securities, but that can mean remaining invested for as long as 10-20 years.
How are investments in gilt funds taxed?
Gilt Funds are taxed like any other debt fund. If you hold the units for less than a year, it will be taxed as per your income-tax bracket (short-term capital gains tax). Long-term capital gains are taxed at 10% without indexation and 20% with indexation.
Additional Reading: What To Remember When Choosing The Right Debt Funds
We hope that you now have some understanding of Gilt Funds. But before you take the plunge, here are a few things that you should keep in mind before investing in Gilt Funds:
- Interest rate – its movements and factors that drive it.
- Select the fund with appropriate duration in line with your investment horizon.
- Gilt Funds typically charge an exit load of 1% if you redeem the units before one year of investment.
- Invest a small portion to diversify the debt portion of your portfolio and take advantage of falling interest rates.
If you still have doubts about Gilt Funds, it’s best to take help of a financial advisor who can guide you well. Looking for other investment options that give guaranteed returns? Try a Fixed Deposit!