The Best Debt Mutual Funds to Invest in 2018
Liquid, Ultra-Short, Low, Short, Medium and Medium-to-Long Duration Funds for your portfolio.
The first question we were asked when we released our list of Best Equity Mutual Funds to invest in 2018 was “What about Debt Funds?”
We haven’t been idle. We realized that we had to build a new proprietary data-driven algorithm with a slightly different approach when recommending Debt Funds.
Different mindsets, different approaches
Most investors approach Equity and Debt with totally distinct mindsets. In an Equity fund, an investor’s primary goal is to maximise returns (knowing there is a likelihood of losing money in the short term). But in a Debt fund, the primary goal is to generate good returns with safety of principal. This is because Debt funds are often an alternate to guaranteed return or AAA-credit instruments such as Public Provident Fund and Bank Fixed Deposits.
This mindset is best illustrated when we explore the implications of a fund losing money on any single investment. Such an event is forgiven in Equity funds— where even a complete loss on a single stock holding is par-for-the-course and could be attributed to any number of factors: competition, business cycle, product obsolescence, pricing power, valuations and even poor judgement by the fund manager.
But Debt funds are different. Most investors consider default by any single issuer among well-diversified holdings in a Debt or Bond fund as a complete disaster, attributable (often unfairly) to one single factor — poor fund management. Fund managers are grilled with questions like: What were you thinking?, Why didn’t you get out in time? and “Why don’t you simply invest in AAA-rated bonds?
So our approach to selecting the right Debt and Liquid Funds follows one simple rule:
Safety first!
Our Debt & Liquid Fund recommendations for 2018 are:
Liquid Funds
Invest in treasury bills, call money, etc with maturity up to 91 days. Generally considered tax efficient alternative to a savings bank account.
- ICICI Prudential Liquid Plan Growth (Direct)
- Axis Liquid Fund Growth (Direct)
Ultra-Short Duration Debt Funds
Invest in high quality bonds with maturities of 3–6 months. Good alternative to bank fixed deposits of similar maturity.
Low Duration Debt Funds
Invest in high quality bonds with maturities of 6–12 months. Good alternative to bank fixed deposits of similar maturity.
Short Duration Debt Funds
Invest in bonds with maturities of 1–3 years. Lower sensitivity to interest rate changes. These schemes were earlier classified as Short-term Bond funds.
- ICICI Prudential Short Term Growth (Direct)
- SBI Short Term Debt Fund Growth (Direct)
Debt funds with maturity > 3 years are only suitable for investors with large risk appetites and the ability to weather significant volatility in returns.
Medium Duration Debt Funds
Invest in bonds with maturities of 3–4 years. Medium sensitivity to interest rate changes. These schemes were earlier classified as Short-term Bond funds.
- HDFC Medium Term Debt Growth (Direct)
- IDFC Bond Fund Long Term Plan — Growth (Direct)
Medium to Long Duration Debt Funds
Invest in bonds with maturities of 4–7 years. Highly sensitive to interest rate changes. These schemes were earlier classified under Intermediate Bond funds
- UTI Bond Fund Growth (Direct)
- HDFC Income Fund (Direct)
How does the algorithm work?
We built a data-driven predictive model that optimises the 2-year returns on funds with an emphasis on higher safety and lower volatility. The universe of funds we worked on included different maturities but excluded Corporate Credit funds which require a detailed study of every single individual bond held by each scheme. We’ve eliminated the funds which have been in existence for less than 3 years and introduced sensible minimum size cut-offs for each category so you can invest and redeem your investments with minimal price impact. Expense ratio is an important input in our Debt funds algorithm — we think it is unconscionable to charge as much as 2% to earn 8–9% in a Debt scheme. The only way a manager can get higher returns while running a higher expense ratio while running the same maturity profile/duration in a category is to take higher credit risks!
Finally, while we will only recommend direct plans (see why), our analysis is on the regular options as they have a longer history of data for our algorithm to work on.
The back-testing results of our recommended funds using our proprietary algorithm applied consistently for each of the last six years is below.
Our model runs on the old categories which existed prior to the massive SEBI-mandated 2018 Scheme re-categorization exercise by all fund houses (the old debt categories were Short Term, Intermediate, etc). We have only recommended schemes that still remain true to their old category. After all, when schemes merge or massively change category — the prior track records become irrelevant, forcing us to ignore them.
You can invest in all our 2018 recommended funds at Clearfunds. Once you set up your account (it only takes five minutes), you can buy funds from 36 different Mutual Fund Companies (including all the major ones) at a for free.
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