Your risk tolerance particularly influences your choice of mutual funds and portfolio creation. If you have a low-risk tolerance, you would likely prefer debt mutual funds that aim to offer moderate and secure returns while emphasizing capital preservation. Debt mutual funds are of different types. One such type of debt fund that has the lowest risk is gilt funds.
If you want to invest in gilt funds, read on to understand them better.
What are gilt funds?
Gilt funds are a type of debt funds that predominantly invest in securities issued by the Central or the State government. As per the SEBI (Securities Exchange Board of India), gilt mutual funds must allocate 80% of their assets in government securities.
The funds you invest in these mutual funds are primarily directed towards government-backed infrastructure and related projects. Hence, there is no risk of non-payment of interest or repayment of principal with gilt mutual funds. However, these funds are affected by the interest rate fluctuations because of their long investment duration.
How do gilt funds work in India?
When the Government of India requires money for different projects, it contacts the Reserve Bank of India (RBI), the lending bank for the Government of India. The RBI, in turn, borrows money from banks and insurance companies and routes it to the government. In return for the funds received, the RBI issues government securities (G-secs) of a fixed term on behalf of the government. Gilt funds comprise investment in these G-secs. Upon maturity, the gilt funds return the invested G-secs and receive their payout (principal + interest earned) in return.
What are the benefits of investing in gilt funds?
- Zero default risk: Unlike other debt mutual funds that invest in corporate bonds and carry credit risk, gilt funds have zero default risk because they majorly invest in government securities. The government fulfills its obligations, which makes gilt funds ideal for risk-averse investors.
- Exposure to government securities: Gilt funds provide retail investors with a risk-free exposure to government securities that are otherwise not available.
- Capital preservation: Mutual funds do not offer 100% capital preservation. However, gilt funds are backed by the government and carry minimal risk. Hence, they assure capital protection irrespective of the market conditions.
- Attractive returns: Gilt funds offer decent returns than many other investment options. Even if you are a risk-averse investor with a short to medium investment horizon, you can still get excellent returns when investing in gilt mutual funds.
Who should invest in gilt funds?
Gilt funds are ideal for risk-averse investors who want to invest for at least three to five years. These mutual funds offer mediocre returns. Hence, they are suitable for investors who aim for capital preservation rather than high returns. It is good to invest in these mutual funds when the interest rates in the economy are likely to reduce. However, these funds are subject to some volatility during times of important economic events. You can evade market volatility by investing in this scheme through the SIP (Systematic Investment Plan) mode.
Conclusion
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