How debt funds can be suitable for investors at various investment stages

Investors often think equity, when it comes to mutual funds. While equity is highly suitable for beating inflation in the long term and wealth creation, fixed income is a very important part of asset allocation. As per RBI's report on Household Savings, traditional fixed income investments like Bank deposits and Government small savings schemes comprises more than 54% of an average household's financial assets. However, mutual funds can provide a wide spectrum of fixed income investment solutions for different investment needs, tenures and risk appetites. In this article, we will discuss how debt funds can be suitable at various investment stages.

Different types of debt funds based on maturity and duration

Debt funds invest in debt and / or money market instruments like TREPs, Commercial Papers, Certificates of Deposits, Treasury Bills, Corporate Bonds, Government Bonds, State Development Loans (SDLs) etc. Different debt or money market instruments have different maturities. The maturity or duration of a debt instrument is directly related to yield and interest rate risk. Longer duration instrument give higher yields but also have higher interest rate risk.

You should know that bond prices have an inverse relationship with interest rates i.e. bond prices go up when interest rates fall and vice versa. Debt funds with longer duration will give higher returns than funds with shorter duration when interest rates are falling and vice versa. Different debt fund categories have different maturity and duration profiles (see the table below). Investors can select funds based on the investment tenures and risk appetites.

Source: AMFI

Note on investment tenure and duration

For shorter durations, investment tenures should be longer than the maturity / duration of the fund to minimize the impact of adverse interest rate changes on absolute returns for investors. If a debt or money market instrument is held till maturity, then interest rate changes will have no impact on investor return since the investor will continue to get coupons and face value on maturity.

Different types of debt funds based on issuers and credit quality

Apart from the above classification, there are different debt fund categories based on issuer (corporation, Governments etc) and credit rating profiles. Credit rating of a debt or a money market instrument is an indicator of the credit risk of the fund. While lower rated debt or money market instruments will give higher yields, their risk is also higher. You should make informed investment decisions and consult your financial advisor or mutual fund distributor if you need any help in selecting the right fund for your investment needs.

Source: AMFI. 1.Public Sector Undertakings 2. Public Financial Institutions

Debt funds can fulfil different investment needs at various investment stages

Why invest in debt funds now?

Market has turned volatile due to shifting geo-political dynamics, global trade uncertainties, impact of tariffs / counter-tariffs on global economy, EU sanctions on Russian oil and various other factors. In uncertain market conditions, asset allocation can provide stability to your portfolio.

As far as fixed income is concerned, RBI has cut repo rates 3 times this year, reducing repo rate from 6.5% to 5.5%. Bond yields have been declining for the last 1 year (see the chart below).

Source: Investing.com, Advisorkhoj Research, as on 30^th July 2025

The interest environment has been favourable for debt funds across maturities compared to traditional fixed income investments (see the chart below). Though RBI changed its monetary policy stance from accommodative to neutral in the June MPC meeting, more rate cuts are expected later this since economic indicators like IIP are signalling slowdown. In a falling interest rate environment, debt fund investors can benefit from interest accrual and price appreciation.

Source: Investing.com, Advisorkhoj Research, as on 31^st July 2025.

Conclusion

Fixed income or debt is an important asset class for all investors. For conservative investors e.g. retirees or investors approaching retirement, debt should form a major part of their asset allocation. Though retail investors have favoured traditional fixed income investments, debt mutual funds offers much broader variety of solutions for different investment needs and risk appetites. Investors should consult with their financial advisors or mutual fund distributors which debt funds can be suitable for their specific investment needs.