7/29/2019 Know your holdings

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Know your holdings

The world of investing in debt mutual funds can be daunting for a retail investor. As of now

the participation of retail investors in the debt mutual fund segment is small, however, if the

structure of developed financial markets is anything to go by, then the Indian investor will

mature and evolve into investing in debt mutual funds instead of locking up his reserves in

fixed deposits offered by banks and post offices.

Our endeavor is to make the investor aware of the dynamics of debt funds. The lay investors

awareness of the same tends to be rather abysmal. In this article we cover the most popular

instruments that an investor can expect his mutual fund to invest in:

CP & CDs

Commercial paper (CP) and certificate of deposit (CD) are the two most common

instruments held by debt mutual funds across the risk and duration spectrum. These are short

term instruments issued to raise capital for a short duration of time, usually less than a year.

A commercial paper is issued by a corporate entity or a company. The proceeds are used to

fund short term requirements which could arise in inventory management and the like. Onthe other hand a Certificate of deposit is issued by a bank, and enables the bank to raise bulk

deposits.

Bonds/Debentures

Dynamic and long term oriented income funds are the primary investors in such paper. A

debenture is a certificate issued in lieu of money borrowed by a company. When a corporate

entity borrows money for a medium to long term period and offers to repay this loan on a

definite future date, with an interest payment through the tenure of the loan, it issues a

debenture. There are variations to the basic debenture in the form of fully or optionally

convertible and non convertible debentures. A convertible debenture is one which can be

converted into stock or equity in the company. By offering convertibility the issuer can availof lower rates of interest.

Zero Coupon Bonds

While most debt based instruments carry a coupon or interest payment, zero coupon bonds

do not carry such a cash flow arrangement. They are instead issued at a discount to their face

value, and upon maturity the face value is paid off.

Floating Rate Bonds

A Floating Rate Mutual Fund is a debt fund that invests predominantly in debt securities with

a floating rate of interest. And these debt securities peg their coupon or interest rate payable

to a market-driven rate like the Mumbai Interbank Offered Rate (MIBOR). Hence each timethe benchmark rate fluctuates; the coupon rate is adjusted accordingly.

The primary advantage of these funds is that they are less volatile than other types of debt

funds. This advantage arises due to the inherent structure of floating rate bonds. In case of

fixed rate bonds when interest rates in the economy change the price of the bond adjusts to

make up for the fixed coupon of the bond. While this happens even in the case of floating

rate bonds the change in the price of the bond is less drastic due to the periodic change in the

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