Till recently, a majority of household savings were diverted into bank deposits and gold. However, with the emergence of a financial market in India, a variety of investment avenues have opened up. Savers can make use of the new opportunities available to avail higher returns than the traditional investment avenues. One of these is debt funds. Debt funds are the mutual funds which invest in fixed income securities and hence, are quite predictable in terms of the returns to be expected.

Here are four things you must know about the debt funds:

Yield to Maturity

Yield is a measure of the returns being generated by a debt security at the current market price. So, if a 9% Rs. 100 bond trades at Rs. 90, it provides a yield of close to 10% to the investor investing in the current prices with an interest of Rs. 9. YTM of the debt fund can be a fair indicator of the returns to be expected for a reasonable range of time.

Interest Rate Risk

Debt mutual funds invest in quoted debt securities and thus carry interest rate risk. The market price of the securities and the yields bear an inverse relationship. So, when market interest rates decrease, the NAV increases and vice versa, other things remaining the same.

Credit Risk

Debt funds invest in securities issued by Central Govt./ State Govt. or corporate entities and hence, carry credit risk too. Do consider checking out the investment mandate and the portfolio quality of the debt fund to see whether the mandate/ portfolio consists of risky securities with lower credit rating and eventually a higher probability of default.

Taxation of Debt Funds

If held for a short tenure, debt mutual funds are at par with other debt investment avenues like fixed deposits etc. in terms of taxation. However, if the funds are invested for longer period i.e. 3 years or more, special tax rates of 10% without indexation benefit or 20% with indexation benefit are applicable for the returns so realized.

Debt funds have indeed emerged as an alternative investing opportunity since they have given better returns than the prevailing bank deposit rates. It’s high time that you too must consider investing your surplus in debt funds. Leave your thoughts in the comments below.

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