5 Reasons to Pick Banking & PSU Bonds Over Credit Risk in Mutual Funds

Mutual fund investing involves risk, but you can avert the risk factor by investing in debt fund assets. For conservative investors, debt funds are the most recommended schemes as they have shorter investment perspective and pose a lesser risk. This category of open-ended fund typically issues fixed income securities like commercial papers, treasury bills, certificate of deposits, government securities, etc.When it comes to debt fund investment, some prefer lower-risk assets like government securities, banking & PSU funds , while others choose to invest in credit risk fund . Often, people are in a turmoil which one to choose out of the two.Banking and PSU bonds are those financial instruments that specifically invest in Public Sector Undertakings (PSUs) and Public Financial institutions. About 80% of the corpus goes into debentures, bonds and CDs. Any investor with a low-risk profile looking for higher returns can opt for this fund type. On the other hand, Credit Risk invest in low-rated securities that accounts for 65% of the fund. Most often, investors have to face high-interest rates to compensate for the low rating, which in turn increases the risk factor. Credit Risk Funds are the riskiest among the debt fund category.Now that you know about both fund types, let’s get to know some of the reasons why you should pick banking and PSU bonds over credit risk funds.

1. Low-risk financial instrument: If you have a low-risk appetite, you should consider banking and PSU bonds. This is because the units belong to banking and public sector companies, which are backed and run by the government. Fund managers or asset management company (AMC) help to build a profitable portfolio by picking the best bonds issued by the PSUs and banks; this helps to spread the risk.When you compare the risk factor with the Credit Risk funds, you will know notice that this fund is prone to frequent rise and fall. Thus it is not recommended for weak-hearted.
2. Ideal for high-income taxpayers: Taxation is yet another reason why you should choose PSU bonds over Credit Risk funds. Investors, who continue to hold profits of bonds for more than three years, generally have to pay long term capital gains tax of 20% with indexation benefit. However, if you hold the bond scheme for less than three years, you will be charged as per the income tax slab as these are Short-term capital gains tax.When it comes to taxation on Credit Risk funds, the only difference is that the dividends paid by the company attract a Dividend Distribution Tax (DDT) of 28.84%. The dividend is distributed from the profit made from the fund. Note that it is tax-free in the hands of the investors.
3. Invest in a Long-term perspective: An average maturity period of government bonds is 1-2 years, which is best for short- and medium-term investors. However, you need to invest in the bank and PSU bonds with a long-term investment perspective. In case of Credit Risk, the investment horizon varied between 3 to 5 years, which means there is a high probability of incurring a loss in a short-term.
4. Better yields over Credit Risk: As you know that government entities issue banking and PSU bonds, you can earn better annual returns at the rate of 8% to 9%. This is still higher than the other debt options. Experts suggest that bond is a safe and a good investment option, even when you’re in a debt crisis.The interest rate on Credit Risk Funds is higher as opposed to bonds. However, one should note that the returns from the former fund type are 2% higher when comparing it with overnight or liquid funds.
5. No complexity in investing bonds: Investing in banking and PSU bonds does not require you to have any market knowledge on interest movements and don’t have to worry about tracking. Any inexperienced investor can start investing in it, unlike Credit Risk mutual fund where low-rated securities need to be hand-picked by a professional fund manager to generate returns.

Things to remember before investing in Banks & PSU bonds:

• Before you start making an investment in government securities, you need to decide your financial goal.
• When you pick a bond, make sure you analyze the fund performance in bullish and bearish market conditions. You will be able to select a reliable fund.
• Whether you’re investing through a fund manager or an asset management company (AMC) and they have the right expertise, the fund will definitely sail through and offer better returns.
• Before heading for investment, make sure you know about the costs involved such as expense ratio, entry and exit load costs.
• You also need to factor in the fund’s Net Asset Value (NAV), Asset Under Management, among others to ensure the reliability of a fund.

You can invest in banking and PSU bonds through online or offline mode. If you’re new to this scheme, you can invest with the help of a broker or directly reach out to any AMC. However, if you want to eliminate brokerage charges, you can directly search for reputed AMCs, compare similar schemes, other details and start investing.

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.