Debt Mutual Funds

A Debt Mutual fund is a type of mutual fund that is designed especially for the low risk investor whose main aim is capital preservation coupled with decent returns on investment. These are for investors who prefer funds with lesser volatility, who want a regular income and are willing to late little or very limited risk.

What are Debt Funds?

All mutual funds have some amount of risk, but debt mutual funds are less risky than equity oriented mutual funds. Debt funds usually invest in fixed income instruments that may also offer capital appreciation.

Debt funds can give you
1. Capital Appreciation and
2. Regular Income

Capital Appreciation:

Debt funds buy either listed or unlisted debt instruments at a certain price and then sell them. The difference between the cost and sale price accounts for the appreciation or depreciation in the funds value. A debt instruments market price depends on the interest rates of its underlying assets and also any up or downward movement in the credit ratings of its holdings.
Market prices of debt securities swing with movements in the prevailing interest rates. Let us say our debt fund owns a security that yields a 10% interest. If the market interest rates fall, new instruments that hit the market would reflect the changed interest rates and offer lower returns. This would result in an increase in our funds price as the higher yield would raise our instruments value. As a result the NAV of our fund would increase which provides us with the capital appreciation

Regular Income:

Similar to the interest that banks offer us on our deposits, debt funds also earn a regular interest from the fixed income securities they are invested in. This income gets added to the debt fund on a regular basis. This income would be shared with us, thereby providing us with regular income

Recommendation:

Debt funds are specifically designed for the investor who is not ready to take risks that come with equity mutual funds but at the same time wants a better return than bank deposits. You can have limited exposure to these funds to add a balance to your portfolio. An ideal investment portfolio would have around 10-15% exposure to these instruments.