Should a portfolio also contain a debt fund?

By BankBazaar | April 28, 2011

Yes! The presence of a debt fund can balance your portfolio so that balanced returns can be generated through out your investment tenor. Although there is an inverse relationship with the inverse relationship between bond prices and interest rates, there are certain advantages as well:

Go for funds with short maturities:

Investments in debt funds for a short term do not have any drastic impact when the interest rates go up. That is the reason, most fund mangers divert the long term debt investments towards short term when it is likely to witness  a rise in the interest rates.

However, this doesn’t mean that debt funds with a lower average maturity will always perform better than the others. This is because the performance of such funds is also linked to other factors, such as quality of the underlying paper, coupon rate and yield to maturity.

Realign your portfolio:

If the rates are falling, you should invest in longer maturity debt funds, such as income funds and gilt funds. However, in a rising rate scenario, short duration plans such as liquid funds, ultra short-term funds and fixed maturity plans (FMPs) are the right choices.

Liquid funds are also favorable choices in high interest  rate scenarios, since these funds have a comparatively shorter maturity profile with a time horizon of up to three months. However, investors should keep in mind the higher tax burden on dividends from liquid funds they can incur.

Ultra short term debt funds are also another option in case of rising interest rates.Not only they are less sensitive to interest rate fluctuations, but also yield good returns in a volatile climate. However, remember that your money will be locked in for the entire duration of the plan.

As a prudent investor, it is important to time your funds, as in check if your investments are growing at the same pace as it you first initially started with. If not there is not opting in sticking on to investments which give no or mere returns The value of investing is lost if you tend to opt for a personal loan or a any type of loan to finance your goals. Do consider the performance of various debt funds before picking one so as to increase your returns for a better future.

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