What is a Debt Fund? Benefits and types of Debt Funds – Complete Guide

Debt Fund is a bond or fixed-income fund. This fund invests your money in assets that give fixed returns like government bonds and money market instruments.

Debt Fund is less volatile in nature and a regular source of income. It is the best substitute for fixed deposits in banks.

Benefits of Investing in Debt Fund

  • Fees on debt funds are lower as compared to equity funds as their management cost is less.
  • Debt funds are liquid in nature and you can withdraw money on any business day. There is no lock-in period for Debt funds.
  • It is considered that debt funds have a more stable income than the conventional source of income.
Debt Funds
Debt Funds (Source:- https://pix4free.org/)

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Type of Debt Funds

Debt funds are divided into 16 types as per the norms of SEBI and their classes are explained below.

1. Liquid

Liquid debt funds invest your money into short-term securities with high ratings. The returns of these funds fluctuate less as the investment is for a short term.

2. Corporate Bond

Corporate Debt Funds invest there 80% of the money in the companies that have the highest credit rating. The companies with the highest credit ratings are financially strong and able to pay back the money on time.

3. Overnight

This new type of debt fund was introduced during the SEBI’s mutual fund reclassification exercise in 2018. An overnight mutual fund invests your money into overnight securities with a maturity period of one day.

The overnight reverse repos, CBLOs (Collateralized Borrowing and Lending Options), and debt or money market securities that mature in a day are examples of overnight funds.

4. Low Duration

The funds that invest money in the money market or debt securities have a maturity period from 6 to 12 months.

5. Money Market

The debt funds lend money to companies and invest money in money market instruments for a period of one year. These funds are designed in such a way that they can generate higher returns by adjusting the lending period.

6. Floater

Floater debt funds are the funds that invest most of the money in floating-rate bonds.

7. Banking & PSU

These funds invest their money in schemes such as debt and money market instruments of banks and Public Sector Undertakings(PSU).

8. Ultra Short Duration

The ultra-short duration invests money for a period of 3 to 6 months in assets like fixed-income bonds, securities, and mutual funds with very short maturities.

9. Short Duration

Short-duration debt fund invests money in the money market and debt instruments for a time period of 1 to 3 years.

10. Medium Duration

Medium-duration debt funds invest money in money market instruments and lend money to companies for a period of 3 or more years.

11. Credit Risk

Credit risk is a fund that invests 60% to 70% of the money in low-rated companies that have a low credit rating. Such companies pay the higher interest due to their low credit score and there are more chances of default.

12. Dynamic Bond

The funds that invest money in different bonds like government, corporate, and private bonds for different durations.

13. Gilt

The funds with lower risk and low rates of return are known as gilt funds. These funds are considered one of the safest forms of investment. These funds invest your money in government bonds and securities.

14. Gilt with a 10-year constant duration

The gilt funds have a maturity period of 10 years and 80% of their money is invested in government securities. It gives more returns as compared to other debt funds.

15. Short Term

The short-term debt fund lends your money to companies for a time period of 1 to 3 years. The money is only invested in such companies that have a good record of repayment of loans.

16. Medium to Long Duration Fund

The debt funds that have a maturity period of 4 to 7 years are known as medium to long-duration funds.

Debt Fund Returns

Generally, debt funds give a yearly return of 4% to 7%.

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