Target Maturity Debt Funds: A Saving Instrument

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Mutual funds are now launching Target Maturity Debt Funds in order to tap the large pool of fixed deposit investors.

Target Maturity Debt Funds (TMDF)—a mutual funds product that offers return and risk, mirroring, a fixed deposit–could emerge as a whiff of fresh air for traditional Indian savers, who have been parking bulk of their disposable income into the conventional debt products such as bank’s Fixed Deposit, Post Office Saving Scheme and Public Provident Funds, that deliver quite predictive and stable returns over the years.

Although there are plenty of new financial instruments cropping up for investors, investors still continue to repose significant faith in bank deposits. The bank deposit accounts for 52% of the total household savings, followed by life insurance (23%), currency (13%) and mutual funds (7%). As a result, mutual funds are now launching Target Maturity Debt Funds in order to tap the large pool of fixed deposit investors.

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TMDF: What Is This Instrument?

Target Maturity Debt Fund is an evolving debt fund category that is passive in nature. A fund manager deploys funds based on the composition of the underlying bond index. In India, underlying bond indexes mainly compose of securities backed by the sovereign guarantee or are owned by the government that reposes faith for assured return and capital protection.

Hence, the TMDF mirrors the performance of this underlying index. These funds have a specified maturity date that is aligned with the expiry date of bonds that it holds in its portfolio. With security selection of underlying bonds done by an index construction company, it offers sizable transparency. In addition, it also offers the benefit of a natural roll-down approach, which means, if a fund buys new security, due to inflows and outflows it has a maturity that matches the remaining tenor of funds, thereby keeping the overall maturity of the fund on the same glide path as its original portfolio.

Furthermore, the TMDF holds underlying securities till maturity, which help funds’ returns to remain protected from the impact of rising interest rate scenarios, therefore carrying less interest rate risk versus traditional bond funds.

TMDF Scores Over Traditional Saving Products

The biggest advantage of TMDFs is that it is more tax-efficient along with stability in returns as compared with traditional investment avenues. TMDF will get indexation benefits when invested for over three years.

The benefit of indexation can be gauged from the fact that Rs. one lakh invested in 2015, through traditional saving instruments, provided a net post-tax return of 4.6%, while investment with indexation benefit resulted in a net post-tax return of 5.7% for the same period, almost 110 basis points higher. In addition, these funds are flexible and come with varying tenures, with the idea to identify pockets of yields that look attractive at a given point in time. The fund structure is based on decreasing residual maturity. This implies that with every passing year, the maturity of the underlying bond keeps lowering and duration keeps sliding.

Lastly, the liquidity of the TMDF is high due to its open-ended nature that allows investors to buy or sell as per his/her convenience, while most of the traditional fixed income products have either a long lock-in period or one need to pay a penalty for early redemption.

Offerings Available

There are several Nifty PSU Bond plus SDL 40:60 indices available based on which fund houses are shaping their offerings. For example, ICICI Prudential has the Nifty PSU Bond plus SDL September 2027 40:60 index as its underlying. 40% of the index constitutes of eight AAA PSU bonds and the remaining 60% in 20 State Development Loans. The underlying fund matures on September 30, 2027.

The index constituents of the underlying index are equally weighted on the base date and index review will happen on a quarterly basis. The bonds of NTPC, PowerGrid, NHPC, Power Finance are all part of the eight PSU bonds, while the SDL of Andhra Pradesh, Kerala, Bihar, Madhya Pradesh form a part of the 20 SDL which is part of the underlying index.

When it comes to maturity, any or all SDLs that are part of the scheme portfolio, the maturity proceeds will be deployed in treasury bills till the scheme’s maturity date. The underlying index has a yield to maturity of 6.28% and a modified duration of 4.60. While the offering will aim to replicate the underlying index, there could be minor deviations due to the non-availability of the issuers or issuances.

So, if you are an investor looking to invest with fund requirements around mid-2027, this is one offering that can prove to be relatively safe, reliant and tax-efficient.

by, Harshvardhan Roongta, CFP, Roongta Securities

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