Corporate Bond Mutual Funds

However, choosing the right bond can be daunting for retail investors who lack sufficient skill and knowledge of the market. In such cases, they can opt for corporate bond funds.

Corporate bond funds are debt fund schemes that invest predominantly in corporate bonds or NCDs. SEBI mandates these funds to invest at least 80% of their corpus in high-rated corporate bonds. Investment in high-quality instruments relatively lowers their credit risk compared to other debt funds schemes.

This type of investment involves minimal risk and is an ideal choice for individuals seeking capital appreciation over the long haul.

Nevertheless, if you’re a risk-taker or an aggressive investor looking after an above-average return rate from investments, you should avoid investing in these funds.

Conservative investors who intend to invest for a medium to long term can always choose to invest in corporate bond funds.

However, managers can also invest in safer government securities to maintain an optimum risk profile.

Bond Price

Bond prices are dynamic and affected by interest rates movements in the market. The prices fall as the interest rate rises and rise as the interest rates fall. This is because of the negative correlation between bond price and interest rates. Comparing the bond’s market price with its par value will give one an understanding of market movements.

Maturity

There is no fixed portfolio duration for corporate bond funds. The optimal duration depends on the future outlook of the market. For example, longer maturity can be beneficial when interest rates are falling. On the other hand, it’s best to keep a lower duration when interest rates are expected to rise.

On redemption of the scheme, the investor is taxed as follows:

For Units Sold Within 3 Years

Investors need to pay short-term capital gain tax as per their applicable slab rate.

For Units Sold After 3 Years

Investors can enjoy the benefit of long-term capital gain at 20%. In addition, they also get the indexation benefit which considerably reduces their tax obligation. This makes the best corporate bond funds an excellent alternative to FD and other small saving schemes. FD returns are taxed as per the income tax slab.

Default Risk

Although credit risk is lower in corporate bond funds, there is no guarantee that a company won’t default on its payment. Credit defaults can permanently reduce the fund’s Net Asset Value (NAV). A certain degree of default risk always exists in corporate bond funds. The risk can be mitigated to some extent by investing in high-rated debt funds.

Interest Rate Risk

Corporate bond funds are long-term investment instruments. They are susceptible to interest rate changes in the market. Adverse interest rate movement in the market can reduce their NAV. The interest rate risk is higher in schemes with longer maturities. To compensate for the higher risk, long-duration bond funds also offer higher returns to investors.

Market Risk

All mutual fund schemes are subject to market risk. There is no assurance of capital safety or a guaranteed return. The wrong estimate of fund managers can lead to a loss in investment. It is essential to seek experienced and trusted managers.

Higher Liquidity

Being high on AAA-rated securities boosts the liquidity of corporate bond funds. Moreover, they are highly traded in the secondary market. Thus a person can easily convert the corporate bond mutual fund into cash when needed. Besides, a considerably large portion of their portfolio is short-term liquid securities. This appropriately insulates the investors from liquidity risks.

Steady Returns

Even during market upheavals, corporate bond funds have proved themselves with steady returns. The performance of corporate bond funds in most periods has topped the performance of banking and PSU debt funds. Their average yield is 7% to 10%, nearly double that government bonds provide.

Tax Benefits

Debt mutual fund schemes offer a considerable tax advantage over traditional investment schemes such as FDs. After allowing indexation benefits, long-term investors (3 years and more) are taxed at only 20%.