Understanding Gilt Mutual Funds

Here’s everything you need to know about gilt mutual funds, before investing.
EXPLORE FUNDS
Gilt funds
EXPLORE FUNDS
4 mins
17 Feb 2024

Are you looking for a safe and stable investment option that can provide you with regular income and capital appreciation? If yes, then you might want to consider gilt mutual funds. These are funds that invest mainly in government securities, which are the most secure debt instruments in the market. In this article, we will take a close look at how gilt mutual funds work, so you can gain a basic understanding of them and evaluate whether they fit into your portfolio.

What are gilt funds?

Gilt funds are a type of debt mutual funds that invest primarily in government securities, such as treasury bills, bonds, and notes. These securities are issued by the central or state governments to raise funds for various public expenses. They have a fixed maturity period and pay a fixed rate of interest to the investors. Gilt funds are also known as government bond funds or government securities funds.

The main advantage of gilt funds is that they have very little credit risk. The government is the most reliable borrower in the market, and it generally fulfils its obligations. However, gilt funds do have interest rate risk, which means that their value can fluctuate depending on the changes in the prevailing interest rates in the economy. If the interest rates rise, the value of the existing bonds will fall, and vice versa. Therefore, gilt funds are suitable for investors who have a low-risk appetite and a long-term investment horizon.

How to invest in gilt funds?

You can invest in gilt funds through various online platforms, such as Bajaj Finserv’s platform. You can then choose the gilt fund that suits your risk profile, investment objective, and time horizon. You can invest either through a lump sum or a systematic investment plan (SIP), which allows you to invest a fixed amount at regular intervals. You can also redeem your units anytime, subject to the exit load and tax implications.

How do gilt mutual funds work?

Gilt mutual funds work by pooling the money of various investors and investing it in a portfolio of government securities. The fund manager of a gilt fund follows a certain strategy to select the securities based on their maturity, duration, yield, and liquidity. The fund manager also monitors the interest rate movements and adjusts the portfolio accordingly to optimise the returns and minimise the risk. The fund manager charges a fee for managing the fund, which is reflected in the expense ratio of the fund.

The investors of a gilt fund earn returns in two ways: interest income and capital appreciation. Interest income is the periodic interest payment that the fund receives from the government securities. Capital appreciation is the increase in the value of the fund units due to the rise in the market price of the government securities. The fund declares a net asset value (NAV) every day, which is the market value of one unit of the fund. The NAV reflects the performance of the fund and changes according to the interest rate movements and the demand and supply of the government securities.

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Who should invest in gilt funds?

Gilt funds are ideal for investors who have the following characteristics:

  • Low credit risk: Gilt funds are suitable for investors who want to avoid credit risk and prefer a stable investment option. Gilt funds have no default risk and offer a steady stream of income. However, investors should also be aware of the interest rate risk and the volatility of the fund value.
  • Long-term investment horizon: Gilt funds are best suited for investors who have a long-term investment horizon of at least 3 to 5 years. This is because gilt funds can benefit from the compounding effect of interest income and capital appreciation over time. Also, investors can avoid the short-term fluctuations in the interest rates and the market price of the government securities.
  • Tax efficiency: Gilt funds are tax-efficient for investors who fall in the higher tax brackets. This is because the interest income from gilt funds is taxed at the marginal tax rate of the investor, which can be as high as 30%. However, the capital gains from gilt funds are taxed at 20% with indexation benefit if the holding period is more than 3 years. Indexation benefit means that the purchase price of the fund units is adjusted for inflation, which reduces the taxable capital gains.

Factors to consider before investing in gilt mutual funds in India

Before investing in gilt mutual funds in India, you should consider the following factors:

  • Interest rate risk: Interest rate risk is the risk of losing money due to the changes in the interest rates in the economy. When the interest rates rise, the value of the existing government securities falls, and vice versa. This affects the NAV and the returns of the gilt fund. Therefore, you should invest in gilt funds only if you have a long-term investment horizon and can tolerate the interest rate fluctuations.
  • Fund performance: Fund performance is the measure of how well a fund has delivered returns over a period of time. You should compare the performance of different gilt funds based on their returns, risk, consistency, and ratings. You should also check the fund manager’s experience, strategy, and track record. You should invest in a fund that has a proven history of outperforming its benchmark and peers.
  • Fund expenses: Fund expenses are the costs that are incurred by the fund for managing and operating the fund. The expense ratio is the fee that the fund charges as a percentage of the fund’s assets. The exit load is the fee that the fund deducts from the redemption amount if the investor exits the fund before a specified period. The transaction costs are the costs that the fund incurs for buying and selling the government securities. You should invest in a fund that has low expenses and does not erode your returns.

Conclusion

Gilt mutual funds are a low-risk and stable investment option that can provide you with regular income and capital appreciation. They invest mainly in government securities, which have no credit risk but have interest rate risk. They are suitable for investors who have a low risk appetite and a long-term investment horizon. You should consider the interest rate risk, the fund performance, and the fund expenses before investing in gilt funds. You can invest in gilt funds through various online platforms and choose the best gilt fund that meets your requirements.

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Frequently asked questions

How long should I stay invested in gilt mutual funds?

Gilt mutual funds are suitable for an investment horizon of at least 3-5 years. They might see volatility during times of important economic events or interest rate changes. Therefore, investors should have a long-term perspective and patience to ride out the fluctuations.

Where do gilt mutual funds invest?

Gilt mutual funds invest primarily in government securities, which are debt instruments issued by the central or state government to raise funds for public expenses. These securities are also known as gilts or G-secs and have fixed interest rates and maturity dates.

Are gilt mutual funds high risk?

Gilt mutual funds have no risk of default or non-payment of interest or principal amount, as they are backed by the government. However, they are exposed to interest rate risk, which means that their prices may fall when interest rates rise and vice versa. They are also sensitive to inflation and economic conditions.

What kind of returns can I earn from gilt funds?

Gilt mutual funds offer moderate to low returns, depending on the duration and interest rate scenario. However, the returns may vary from fund to fund and year to year, depending on the fund manager’s strategy and market movements.

Is a gilt fund better than a fixed deposit?

Gilt funds and fixed deposits have different features and benefits. Fixed deposits offer guaranteed returns and safety of capital, but they are taxable and have low liquidity. Gilt funds offer market-linked returns and tax efficiency, but they have volatility and interest rate risk. The choice between the two depends on the investor’s risk appetite, return expectation, and investment horizon.

Are gilt funds a good investment?

Gilt funds can be a good investment for investors who seek exposure to debt investments, have zero risk tolerance, are about to retire, or want to balance their portfolio with stable and risky funds. Gilt funds are also suitable when interest rates in the economy are expected to come down, as they can benefit from the capital appreciation of the bonds. However, investors should be aware of the risks and costs involved and choose the fund that matches their goals and profile.

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