Investing in Capital Protection Funds: Safeguarding Your Wealth with Smart Financial Choices

Understand the unique features, investment strategies, and the compelling reasons why Capital Protection Funds make a wise addition to your investment strategy.
Investing in Capital Protection Funds: Safeguarding Your Wealth with Smart Financial Choices
4 mins
17 Feb 2024

Capital protection funds are specialised close-ended hybrid investment options designed to offer investors the potential for equity-like returns while also providing some security. These funds aim to safeguard the capital of investors during market downturns while also allowing for capital appreciation during market upswings. The primary goal of capital protection mutual funds is to protect investors' capital in times of market volatility. Simultaneously, they aim to capitalise on the equity market's potential for growth.

Who should invest in capital protection funds?

Capital protection funds are best suited for investors with certain preferences and financial goals. You should consider investing in capital protection funds if you are:

  • Risk-averse investors: If you are risk-averse and want to protect your capital from market downturns, capital protection funds are an ideal choice. These funds provide a level of security akin to fixed deposits while also offering the potential for equity-like returns.
  • Avoiding interest rate volatility: For those who wish to avoid the interest rate fluctuations associated with traditional fixed-income investments, capital protection funds can be a suitable alternative. The debt component of these funds provides stability.
  • Matching investment horizon: When your investment horizon aligns with the tenure of a capital protection fund (typically 3-5 years), it can be a strategic choice. These funds are best for those who can commit their funds for the specified period.

Allocation of capital protection funds

Capital protection funds are a blend of fixed-income securities, such as zero-coupon debt, and equity investments. This combination aims to provides investors with principal protection through the fixed-income segment of the portfolio while allowing for additional gains from the equity portion. Portfolio managers structure these funds to ensure capital protection.

How capital protection funds operate?

These funds are typically close-ended hybrid schemes, with approximately 80% of the portfolio invested in fixed-income instruments like bonds, certificates of deposit, and treasury bills. The remaining portion is allocated to equity and equity-related instruments, such as convertible debentures, preference shares, warrants, and derivatives, following SEBI guidelines. Capital protection funds aim to strike a balance between protecting the invested capital and generating returns by diversifying the portfolio with both low-risk and higher-risk assets.

Benefits of capital protection funds

  • Capital protection: Investing in capital protection funds is ideal for risk-averse investors who want to benefit from equity investments while safeguarding their principal amount. These funds strike a balance by allocating 80% to highly rated debt instruments and the remainder to equity. When equity markets perform well over the fund's tenure (usually 3-5 years), investors can witness substantial growth. In adverse scenarios, their capital remains protected.
  • Balanced portfolio: These funds provide a balanced investment portfolio that combines fixed-income securities, typically zero-coupon debt, and equity investments. This balance allows investors to enjoy the security of fixed-income instruments while still benefiting from potential equity market gains.

When to consider capital protection funds

  • During market volatility with medium to low inflation levels.
  • If you are averse to interest rate volatility.
  • When you want to participate in equities while minimising the associated risks.
  • When your investment horizon aligns with the fund's tenure.

Capital protection funds offer a suitable option for individuals with specific financial goals who wish to secure a portion of their initial investments without forgoing the benefits of equity investments. It is important to note that the Scheme is “oriented towards protection of capital” and not “with guaranteed returns”. Further, the orientation towards protection of the capital originates from the portfolio structure of the scheme and not from any bank guarantee, insurance cover etc.

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