Let's face it. Investing can be overwhelming with so many choices in the market. But keeping an open mind and constantly learning about new products can help you build a portfolio that is up to date with your goals as well as the happenings of the market. Several times, you may have come across the equity funds vs. debt funds debate. However, it is the sub-categories within these two that really need your attention. Target maturity funds, a type of debt fund, are one such example gaining popularity among interest rate hikes. Now should you consider target maturity funds as an investment in a rising interest rate environment? Let's find out.
What are target maturity funds?
Target maturity funds are a type of passive debt fund. They are open-ended schemes that track an underlying bond index. The bonds in these funds have similar maturity periods and are held until the end of their tenure. Additionally, the interest payments received during the term are reinvested in the fund for better returns.
Target maturity funds are available as index funds or Exchange Traded Funds (ETFs). Moreover, they invest in Public Sector Undertaking (PSU) bonds, Government Securities (G-Secs), and State Development Loans (SDLs).
Target maturity funds as an investment can appeal to you for a number of reasons. Let's see what these are.
Why should you invest in target maturity funds?
- Liquidity: Target maturity debt funds are open-ended schemes. They offer a high degree of liquidity, and you can exit the scheme before the maturity date at any point.
- Low risk: According to the regulations of the Securities and Exchange Board of India (SEBI), target maturity funds can only invest in high-credit quality papers like government securities, AAA-rated PSU bonds, and SDLs. As a result, they have relatively lower default and credit risk.
- Power of compounding: The interest earned from target maturity funds is reinvested in the fund. Hence, you can benefit from compounding if you stay invested till the maturity of the scheme.
- Indexation benefit: Gains on target maturity funds that are held for more than three years are taxed at 20% after indexation. This can lower your tax dues considerably and help you save money in the face of inflation.
Reasons to consider target maturity funds as an investment in an increasing interest rate environment
Target maturity funds invest in bonds with a maturity date close to the fund's target date. They make for a good investment during a period of rising interest rates because they are less sensitive to interest rate changes than other types of bond funds. When the bonds in the fund are nearing maturity, they will be paid off at face value regardless of changes in interest rates.
In other words, these funds are designed to provide a predictable income stream and reduce the impact of interest rate fluctuations on the fund's value.
If this seems unclear, you can always reach out to a financial advisor to get more information on how these funds work with respect to interest rates.
Conclusion
Target maturity bond funds can be suitable for conservative investors looking for steady and visible returns. Their immunity to interest rates also makes them ideal when inflation and interest rates are rising. However, as with any investment, it is recommended first to understand your investment goals and thoroughly evaluate and compare multiple funds before investing anywhere.
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MUTUAL FUND INVESTMENTS ARE SUBJECT TO MARKET RISKS. READ ALL SCHEME-RELATED DOCUMENTS CAREFULLY
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MUTUAL FUND INVESTMENTS ARE SUBJECT TO MARKET RISKS, READ ALL SCHEME RELATED DOCUMENTS CAREFULLY.
