Which Debt Funds or Bonds Offer Better Returns and Safety Compared to Fixed Deposits in India
Hi,
Thank you for your question! Debt funds, equity mutual funds, and fixed deposits are three distinct investment options that cater to varying risk and return profiles. To determine which is the best fit for your investment goals, let's explore each product and its characteristics.
Understanding the Products
Debt Funds are a type of mutual fund that invests in debt securities such as government bonds, corporate bonds, non-banking financial companies (NBFCs), and other debt instruments. The portfolio and its performance are defined by the scheme's objectives, such as duration, type, and number of securities. Debt funds are traded on the secondary market, meaning there's no guarantee of returns unless specified otherwise. Factors like interest rate risk, credit risk, and valuation risk affect the performance of debt funds. The returns depend on the performance of the underlying portfolio.
Fixed Deposits (FDs) come with different maturities and offer a fixed interest rate based on the tenure of the deposit. They are a conservative investment option, providing a regular rate of return and are relatively safe when compared to stocks or mutual funds but do not guarantee high returns. The interest earned on FDs is subject to taxes, and the returns are lower than what you can expect from equity or debt schemes.
Equity Mutual Funds invest in stocks, which means the returns are directly linked to the performance of the stock market. These funds are suitable for investors with a higher risk tolerance and a long-term investment horizon.
Setting Your Investment Parameters
When choosing an investment product, it's essential to set clear goals, understand your risk appetite, and decide on your investment tenure. Considering these parameters will help you make a more informed decision.
Based on your question, you are looking to invest a few lacs for a period of a few months to a couple of years, with the goal of getting better returns than fixed deposits. Let's explore the options available in the debt fund category and their potential returns.
Debt Fund Categories and Returns
Liquid Funds are suitable for investors seeking high liquidity and returns higher than fixed deposits, but for a very short investment period of up to 3 months. You can expect returns around 5 to 5.5% compounded annually (CAGR). These funds are not recommended for those looking to park their money for longer periods.
Short Term Debt Funds and Ultra Short Term Debt Funds are ideal for investors with a shorter investment horizon of less than a year. These funds offer a higher CAGR of around 6 to 7%, with no exit load, allowing you to redeem your investment at any time.
Corporate Bond Funds, Credit Risk Debt Funds, Banking and PSU Funds are suitable for investors with a longer investment horizon of 2 to 3 years and beyond. These funds offer higher returns, often surpassing 7 to 8%, but come with higher risks, including interest rate risk and default risk.
Risk Considerations
Interest rate risk occurs when an increase in interest rates leads to a decrease in the Net Asset Value (NAV) of debt funds. Default risk refers to the possibility of default on debt securities held by the fund. Recent examples like VIL default highlight the importance of thorough research and diversification.
Tax Implications
Capital gains from debt funds are added to your respective tax slab and are subject to tax as per applicable tax rates. It's crucial to understand the tax implications before making your investment decision.
Choosing the Right Fund
While there's no guaranteed return, reputable mutual fund companies like HDFC Mutual Fund, Franklin Templeton, ICICI, and Aditya Birla AMC consistently offer competitive returns. It's important to consider the track record of the fund and choose a brand that aligns with your investment goals.
Happy Investing!