Declining interest rates on FDs in banks and recent default of some banks have created a problem for investors with fixed income. Talking about the country’s largest bank SBI, the interest rate on 1-year FD is 4.9 percent. The investor is thinking more about protecting his investment amid concerns of defaults and economic slowdown. Certain schemes and floating rate saving bonds of RBI for senior citizens are definitely safe and give excellent returns, but here liquidity problem comes into play. In such a situation, Debt ETF is a great option.
No market risk due to fixed maturity period
Bond ETFs have a maturity period due to which there is no market risk on the securities included in its portfolio. Bonds are triple A rated PSU bonds or jointly triple A rated and state development loans (SDLs) in the portfolio of ETFs. Triple A rated PSU bonds are similar to sovereign security and SDLs are securities issued by states that are quasi-sovereign. ETFs are generally similar to trading in equity shares and AMC has no role in their purchase or redemption. However, in large transactions, when the demand for big investors increases, AMC plays a role in creating units.
Benefits of investing in bond ETFs
If you invest in a bond ETF, there are many benefits.
- Credit risk is very low, almost non-existent as the investment is in Triple A-rated PSU bonded or Triple A rated and SDL.
- If you keep investing till maturity, then there is no interest rate risk or volatility risk.
- Tax efficiency. Similar to open-ended debt funds or FMPs, debt ETFs will also get the benefit of indexation if they are held for three years or more. After indexation, net capital gains will be taxed at 20 percent. However, given the advantages of indexation, the tax rate can be ignored.
- Liquidity facility is available in Bond ETFs. Liquidity is available in open-ended mutual funds. Liquidity in bond ETFs is decided through market makers as decided by AMC.
- The expense ratio that AMC takes for these funds is almost non-existent.
Choose maturity according to cash flow
To invest in bond ETFs, a broker must have a trading account and a demat account on the mobile base trading app. Their purchase or redemption is not done through AMC or mutual fund distributors, but it is you. Details like portfolio and maturity date can be seen by visiting AMC website. You can buy it by choosing maturity according to your cash flow.