Picking an ideal debt mutual fund to add in your investment portfolio can be a complicated task. This is because there are as many as 16 different categories of mutual fund types. Typically, debt funds invest in fixed income instruments such as money-market instruments, corporate debt securities, corporate bonds, government bonds, among others.
The article can help you decide how to pick the correct debt fund for a balanced portfolio.
Know your investment horizon
The first step is to ascertain for how long you wish to stay invested in the debt fund. Then, you can match the scheme’s duration with the tenure.
For example, if you are looking to park your money temporarily for a short duration, you can consider investing in liquid funds or ultra-short-term funds. Or, if your holding period is between three to five years, credit opportunities and income funds can be a good option.
If you can hold longer than five years, dynamic bond funds and medium to long-term gilt funds can be an excellent option to earn good returns.
Determine your risk appetite
Like all mutual fund schemes, there are certain risks associated with debt funds. These include interest rate risks, credit risks and liquidity risks.
Interest risk involves risk due to interest rate fluctuations, whereas credit risk refers to the risk of default by the issuer of debt funds.
Liquidity risk is the risk faced by a fund manager in selling specific securities in the market.
Depending on the risks you are willing to take, you can choose SIPs in a mutual fund with care.
Check scheme’s past performance
Picking up a debt fund solely based on its recent performance may not be a good idea. Instead, you can study two complete interest-rate cycles of a debt fund to assess its track record. By doing so, you can check out how the fund fared in the bull as well as the bear phase. You can also compare it with the others in the peer group to know its performance and decide if it is an ideal buy based on the risk-return trade-off.
Monitor the expenses
The seemingly trivial annual costs you incur on a debt fund can accumulate and impact your returns. The expense ratio can vary from 0.23% to 2.5%.
It can help to watch out for this ratio while selecting a fund. Additionally, you may want to keep an eye out for fees, exit loads and other management expenses that could affect your returns negatively.
If you are a new investor, you can read more on what is a mutual fund and various types of mutual funds that you can invest in. Once you are ready to invest in mutual funds consider following these smart tips before selecting a debt mutual fund to add in your investment portfolio. You can start with SIP investments after choosing a debt fund that matches your investment horizon and risk tolerance to give the best returns.