scorecardresearchHere's why investing in fixed maturity plans, target maturity debt funds makes sense at this juncture

Here's why investing in fixed maturity plans, target maturity debt funds makes sense at this juncture

Updated: 09 Jan 2023, 01:17 PM IST
TL;DR.
To minimize the interim volatility due to interest rate movement and lock-in the prevailing high yields it is prudent to hold the investments till maturity of the scheme.
FMPs and TMDFs are good for conservative investors.

FMPs and TMDFs are good for conservative investors.

With the Reserve Bank of India (RBI) following a suite of major central banks that are hiking interest rates as they battle inflation on their home turf, yields have moved up significantly since May 2022.

This augurs well for investors looking to invest in relatively safe debt instruments like my mother. Last week I got a call from my mother (an ex-PSU bank employee) as she excitedly proclaimed, “My bank is offering me an interest rate which is significantly higher than the public provident fund (PPF) interest rate for a fixed deposit (FD) with a tenure of close to three years”.

Being a senior citizen and ex-employee of the bank, she got the benefits of an additional interest rate on the FD over and above the regular interest rates.

Not many individuals will get these additional benefits, so what are the options available for individuals?

With interest rates moving up, traditional saving instruments like FDs have started looking attractive to investors, however, debt mutual funds especially fixed maturity plans (FMPs) and target maturity debt funds (TMDFs) have become relatively more attractive.

From a post-tax return perspective, debt mutual funds score significantly well compared to traditional investment avenues like bank FDs as they enjoy the benefit of indexation making them more tax efficient.

So, what are FMPs and TMDFs?

Both FMPs and TMDFs, as the names suggest, have a fixed or target maturity at the time of the launch of the scheme.

The advantage offered by both these products is that if the investors held their investment till maturity in these schemes, it minimalizes the interest rate risk and would allow them to typically lock in the yields prevailing at the time of investment, subject to re-investment risk and scheme expenses.

FMPs are close-ended debt schemes with investments in a pre-defined asset allocation pattern. The fund manager constructs the portfolio according to an asset allocation pattern and is made up of either government securities, state development loans and corporate bonds or a combination of these issuers.

FMPs have been launched by fund houses that usually have maturities ranging from three-to-five years.

Being close-ended, FMPs are listed on stock exchanges to provide liquidity to investors; however, investors need to note that the trading volumes are low for such offerings.

While liquidity may be a constraint, the advantage of FMPs is that there are no purchases or redemptions happening during the tenure of the scheme which allows the corpus collected during the NFO to be held till maturity and realize the underlying yields at the time of investment.

In comparison to FMPs, TMDFs are open-ended in nature and allow the investors to purchase and redeem their funds during the tenure of the schemes thereby having flexibility in terms of liquidity.

TMDFs can either be Index funds or exchange-traded funds (ETFs) or the fund of funds (FoFs). In the case of TMDFs, the fund manager replicates an underlying debt index.

The index could have a composition of purely government securities, state development loans and corporate bonds or a combination of these issuers.

TMDFs currently in the market normally have maturities ranging from three years to 10 years, while in some cases the maturities have also been more than 15 years.

The credit risk associated with both FMPs and TMDFs is relatively low as investments are currently being made in Sovereign and AAA-rated issuers where the chances of a default are meagre.

However, like any debt scheme, it is prudent to ascertain the credit risk associated with the underlying issuers before investing in these schemes.

Who should invest?

If you are a conservative investor and desire to earn relatively higher returns than a bank FD or tax-free bonds then both FMPs and TMDFs are investment options that you should consider for their investments.

The caveat being the investments should be held for more than 36 months to get the benefit of tax-efficient returns compared to FDs.

Further, to minimize the interim volatility due to interest rate movement and lock in the prevailing high yields it is prudent to hold the investments till the maturity of the scheme.

(The author of this article is Executive Vice President and Head –Products, UTI Asset Management Company)

Disclaimer: The views and recommendations given in this article are those of the analyst. These do not represent the views of MintGenie. Mutual Fund Investments are subject to market risks, read all scheme-related documents carefully.

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First Published: 09 Jan 2023, 01:17 PM IST