How to Choose A Viable Debt Fund

By BankBazaar | May 25, 2012
Over the last few years, economists have seen a trend wherein people spend a lot of time fretting over the choice of their mutual fund, than what is done for the selection of debt funds. Although it may seem that the choice of debt funds may be relatively easy, its contrary holds true. Debt funds usually seek to preserve your capital and generate higher income over a period of time. Its performance against a certain benchmark is considered on a secondary basis, as compared to absolute returns, while making an investment in debt funds. Thus, the choice of a debt fund can be extremely tricky and investors may have to tread on slippery ground while considering a profitable debt fund, as a wide variety of choices like short-term debt funds, monthly income plans, liquid debt funds, income debt funds, gilt debt funds, ultra short debt funds, fixed maturity plans, and so on, are available in the market today. As for mutual funds, investors have to pay attention to the performance of the debt fund, its consistency over a period of time, its risk profile and the track record of the fund manager, besides other factors while choosing a debt fund. Also, one needs to pay attention to the following integral factors, which may be crucial in determining the success of your debt fund over a long period of time. They are:
1) The quality of your underlying paper

First of all, it is mandatory to scrutinize the quality of debt instruments included in your fund portfolio. This can be done by analyzing its credit rating, which reflects its level of default risk. Higher the credit rating of your debt fund, the more protected you are. In order to check these, investors need to closely analyze the offer document of your debt fund, along with its subsequent fact sheets, which may provide crucial clues on the type of portfolio of the debt fund.
2) Fund maturity

Investors need to first decide the period for which they intend to invest in the debt fund. If you are seeking to invest in debt funds for a period of less than 3 months, do not invest in liquid funds. Instead, opt for funds like ultra short-term debt funds, since they may be a more profitable venture. For those seeking to invest for a longer period of time, fixed maturity plans or income plans are your best bets in the market.
3) Time Horizon

As the maturity profile of each category of debt funds varies greatly, it is important for investors to match the time horizon of your investment, as closely as possible, with that of your debt fund. Ideally, look for investments in fixed income debt funds, which are in sync with the risk profile and the investment horizon of the debt fund.
Assessing all these factors, as mentioned above is crucial. However, make sure that you have adequate liquid funds parked for utilizing them in case of emergencies. Many times, it has been observed that, people draw a time frame for achieving certain desired returns. Eventually investing a major portion of their funds into debt assets whose maturity may be as long as 5- 10 years. In case of any medical emergency where they require huge sums of money, it is not possible to liquidate such debt investments without completing a lengthy procedure and let going a major portion of the expected returns as a charge for premature withdrawal. In such cases, falling prey to acquire loans from private money lenders, who charge exorbitant rates of interest, borrowings from family and relatives or applying for a personal loan to fulfill such financial requirement becomes mandatory.
In order to avoid such unnecessary hassles and burdens that can create an impact on your finances in future, make sure that you have only a reasonable portion of your funds into debt investments and also set aside a certain percentage of your income as an emergency fund.
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