Nivesh Jaagran How to choose a debt fund

How to choose a debt fund

Things to remember while choosing a debt fund.
Shreeta Rege Sep 6, 2018

In the recent AMFI Summit, SEBI Chairman Ajay Tyagi brought attention to the low retail participation in debt funds. “Of the total Rs 12.30 lakh crore total debt AUM, around Rs 11.50 lakh crore is held by non-retail investors,” he said. Limited understanding of debt schemes has contributed to the retail investors preferring traditional debt products. Moreover, the wide variety of debt schemes in market may further confuse your clients.

In this article, we cover the key points to remember while choosing a debt fund. You can share these with your clients to help them understand debt investing.


While historical performance is not indicative of future returns, it helps investors get a reference point in terms of the returns the fund has delivered previously.  As interest rate influences debt fund returns, you need to see fund performance in conjunction with movement in rates to see whether the fund manager was able to manage exposure accordingly. This is especially crucial in case of long-term debt funds and dynamic bond funds as the impact of interest rates on these funds is higher.

Scheme category

Recently SEBI has clearly demarcated different fund categories in terms of Macaulay duration. Knowing the scheme category, you can quickly understand the duration bucket in which it operates. Alternatively, if the scheme only invests in a particular category of issuer you can understand it by looking at scheme category too. To give an example Banking and PSU debt funds invest in papers issued by banks or PSUs and Gsec funds mainly invest in bonds issued by Government of India.

Modified duration

Modified duration is an important parameter while choosing medium to long duration fund. Modified duration indicates how sensitive a fund is to the changes in interest rate. The higher the modified duration, the higher the interest rate sensitivity.

Change in interest rates inversely impacts price of debt securities; that is an increase in interest rate results in fall in price of debt securities and vice versa. In case the scheme has higher modified duration, the impact of interest rate movement on price of invested securities will be higher. Thus, schemes running higher duration show higher returns when interest rates fall and may even report short-term loss in case of a sudden rise in interest rates. 

Rating profile

Rating is an important parameter while choosing credit risk funds and accrual funds. Rating is essentially a repayment measure. The higher the rating, the higher the repayment ability of the invested debt securities. While different rating agencies follow different methodologies, generally AAA is the highest rating for long-term debt securities while A1+ tends to be the highest rating for short-term debt securities.

Portfolio YTM (Yield to Maturity)

This ratio helps you get a general idea of expected returns from the scheme over a time horizon closer to the average maturity of the portfolio. The ratio assumes that the securities will be held till maturity. Hence, this ratio is not particularly useful in case of long duration schemes where portfolio manager actively trades securities based on interest rate view.  This ratio is relevant in case of short to medium duration schemes, which aim to generate returns mainly through interest payments from invested securities.

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