High yields across maturities, low expense ratio and almost zero default risk make these funds a good bet

Why target maturity mutual funds are a good bet now

For years, debt funds were ignored by retail investors, thanks to the market-linked nature of returns. Preferring the safety of assured returns, investors opted for bank FDs and small savings schemes. Three years ago, the debt fund landscape changed overnight. Introduction of passive index-based debt funds—in the form of target maturity bond funds—was the game changer. Domestic investors got a taste of TMFs in 2019 with the Bharat Bond ETF series. Since then, multiple TMFs in various flavours have been launched, making a compelling investment proposition.

The fixed maturity of TMFs allows predictability of return if the investor stays invested till the fund’s maturity, when it pays out the entire value, including gains. The fund manager simply buys instruments that match the fund’s tenure, and holds them till maturity. Any incremental bond purchases are also aligned with the residual maturity of the fund. Investors get locked into the prevailing yields of bonds of the relevant maturity, doing away with the interest rate risk. Hemant Rustagi, CEO, Wiseinvest Advisors, asserts, “Like fixed maturity plans, TMFs help you lock in prevailing yields, but unlike FMPs, these allow the comfort of exit at any time.” The only caveat to the predictability is that TMFs permit intermittent inflows which can swing the final outcome basis what yields they get deployed at. FMPs do not suffer this limitation.

Coming in the form of index funds and ETFs, TMFs simply replicate the composition of the chosen index. Since index constituents are already known, investors know what to expect—portfolios of very high credit quality, investing in government or AAA-rated PSU bonds as well as state development loans. Default risk is negligible. The index profile means better liquidity in underlying bonds, apart from very low expense ratio. Now with yields across various maturities at over 7%, there is a ripe case for putting money in TMFs for time horizons of three years and beyond. Experts insist that investors still have a window of 2-3 months for capturing peak bond yields.

But first, identify the right maturity buckets to invest in. Investors must align their own time horizon with the fund maturity. For instance, if you have cash needs 3 and 5 years from now, split your capital across two target maturity funds with matching tenures. Amol Joshi, Founder, PlanRupee Investment Services, says, “Invest in a TMF that matures around the date or few weeks prior to the targeted date for your planned outlay.” Once maturity buckets are identified, opt for funds offering higher yields within each bucket. Most recommend opting for schemes combining gilts or PSU bonds with state development loans. Whatever your choice, it is critical to hold till maturity.

It is the only way to fetch returns closer to the predicted returns. The flux of TMFs coupled with prevailing elevated yields now makes laddering a sound strategy. This essentially involves creating a portfolio of such bonds maturing at regular intervals. With maturities starting from 2025 to 2037 on offer, investors can now build a ladder with yearly rungs—so that some portion of the portfolio will mature each year. For instance, investors may currently target a five-step bond ladder spanning the 3-7 year maturity segment with funds maturing yearly from 2025 through 2029. A flattish yield curve—offering 7-7.5%—makes this very timely. You can put in half the amount now and ladder the rest via TMFs over a few months, advises Dev Ashish, Founder, Stableinvestor.

How different debt funds stack up
The debt fund landscape changed with the introduction of target maturity bond funds in 2019.
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Building a ladder of TMFs offers visibility of return
Flux of target maturity bond funds coupled with prevailing elevated yields now makes laddering a sound strategy.
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This story originally appeared on: India Times - Author:Faqs of Insurances