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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