What is debt funds?

Debt funds are investment pools like mutual funds or exchange-traded funds where the core holdings are fixed income investments. Debt funds may invest in short-term or long-term bonds, securitized products, money market instruments or floating rate debt. The fee ratios on the debt funds are usually low than the equity funds as the overall management costs are low. Debt mutual funds are also known as credit funds or fixed income funds. Debt funds come under fixed income asset category and they are generally used as the tactical investments for low risk proportions of a portfolio that may be seeking preservation of capital or for investors who seek low risk income distributions.

There are a wide range of debt options for investors who wish for low risk income investments inside the fixed income category. Investors can also turn to passive and active investment products. Debts funds generally invest in fixed interest generating securities like corporate bonds, government securities, treasury bills, commercial paper and different money market instruments. Once an investor has a complete idea about debt fund meaning and how they function, they can easily invest in them for producing capital gains.

How does a debt fund work?

Purchase of a debt fund is similar to providing a loan to an issuing entity. One of the main reasons an investor will opt for investing in debt funds is to earn interest income and capital appreciation. The interest which is earned on these debt securities is pre-decided along with the duration after which the debt securities mature. An investor knows what they will get out of these instruments, hence they are called fixed income securities. Debt mutual funds will try to optimize the returns by diversifying across different types of securities. This allows the debt funds to earn good returns, but there are no guaranteed returns. Returns from the debt funds are expected under a predictable range which makes them safer avenues for conservative investors. Debt funds also invest in different securities based on credit ratings. A fund manager will generally make sure that an investor invests in high credit quality instruments High credit ratings will mean that the entity will be more likely to pay the interest on debt security as well as pay back the principal amount upon maturity. Debt funds which invest in high-rated securities are less volatile as compared to the low-rated securities.

Debt mutual funds are ideal in an investor’s portfolio for achieving a variety of financial goals. Investors can use debt funds as a source of income for an additional way of earning income. Up and coming investors will invest some portion in debt funds for purpose of liquidity. Individuals who are nearing retirement also invest their retirement benefits in debt funds for receiving the pension.