What are floater mutual funds?
They are a category of debt mutual funds available for investment. Some of the instruments that one can invest in floater funds are T-bills, government securities, certificates of deposit etc.
How do floater funds work?
Floater funds are required to invest at least 65% of the underlying funds in floating rate instruments. The returns of floater funds ‘float’ with the interest rate. An increase in the interest rate helps the floater fund to generate returns in line with the rising interest rates.
When is it wise to invest in floater funds?
The interest rate cycle is an important consideration when investing in floater funds. If RBI hikes interest rates, it may result in a jump in floater fund returns as well.
All debt funds committed to fixed-income instruments such as government securities and corporate bonds potentially lose value due to such an increase in the interest rate. However, it can work favorably for floating rate funds. Therefore, it may make sense to invest in floating rate funds when interest rates are rising.
What are the risks associated with floating rate funds?
Floater funds are within the debt mutual fund category; However, they are not devoid of risk. They remain exposed to credit risk and duration risk. Credit risk refers to the possibility of defaulting on committed payments by the bond issuer. Duration risk is the risk of an unfavorable change in the interest rate that leads to a corresponding change in the market price of the fixed income instrument.
Floating rate funds can hold up to 35% in debt and money market instruments other than floating rate instruments at any point of time. Fall in interest rates is considered unfavorable for floater funds. However, floater funds as a category carry less risk as compared to other avenues like equity mutual funds, equity stocks etc.
factors to evaluate
The choice of investment in floater funds should be guided by evaluating these factors:
- Tax Qualification:
If redeemed within 36 months, short term capital gains tax is applicable. This means that the gains are taxed as per the income tax slab of the investor. The floater can take advantage of long term capital gains indexation on the fund, which can reduce the tax liability. If held for more than 36 months, long-term capital gains apply. It is a tax of 20% (excluding applicable surcharge and cess) with indexation benefit. - Interest Rate Cycle:
One of the most important aspects to consider is the attitude towards interest rates. If we are in a period of rising interest rates, then one can consider investing in floater funds. - return potential
Floater funds provide returns in line with the prevailing market interest rate. This can be beneficial in a rising interest rate scenario. - Credit Quality:
The choice of floater fund should not only be based on the long-term outperformance of the fund but should also be guided by the credit rating of the instruments under the fund.
Floater funds are a suitable method
Diversity
and reduce the overall risk of the portfolio in certain situations. Even a person with relatively low risk can consider investing in these funds, provided the interest rate cycle is favorable.
Disclaimer:-
An investor education initiative.
meeting www.icicipruamc.com/note To know more about the process of fulfilling the Know Your Customer (KYC) requirement for investing in mutual funds. Investors should deal only with registered mutual funds, details of which can be verified on SEBI website https://www.sebi.gov.in/intermediaries.html, For any queries, grievances and grievance redressal, investors may contact the AMC and/or Investor Relations Officers. In addition, investors can also file complaints on https://scores.gov.in If they are dissatisfied with the proposals made by the AMC. The SCORES portal allows you to register your complaint with SEBI online and view its status later.
Mutual fund investments are subject to market risks, read all the documents related to the scheme carefully.