Investing in Gilt Mutual Funds in 2023: Check Benefits, Features & Risks
Gilt mutual funds are low-risk investment options that invest in government-backed securities such as bonds and treasury bills. It is a type of debt fund that generates returns at fixed rates over the maturity period.
Usually, gilt funds invest in instruments with varying maturity periods. Since the government backs these underlying securities, the chances of defaulting on repayment are negligible.
Now that we’ve covered what is a gilt mutual fund, let’s dive deeper into its fundamentals.
How do Gilt Funds Work?
The Reserve Bank of India (RBI) acts as a banker to the Indian Government. Whenever the Government needs credit, it approaches the RBI to raise funds. Accordingly, the apex body borrows funds from financial entities such as insurance companies and banking institutions to provide money to the government.
In exchange for this credit, RBI issues fixed income-generating securities with a pre-fixed tenure or maturity period. Gilt mutual fund managers obtain these interest-bearing securities, essentially lending money to the government. On maturity, the issuing body, i.e., RBI acquires back such securities by repaying the principal amount and the interest.
Typically, a gilt fund serves as an ideal mix of substantial returns and low risks. However, the performance of gilt mutual funds depends largely on interest rate movements. As a result, these funds are more profitable when market interest rates fall and offer less significant gains when interest rates go up.
For example, suppose the government issues a bond carrying a 6% interest rate p.a. for 7 years. If the interest rates go up to, let’s say, to 8% in the future, the market value of that bond will decline as investors will prefer the securities issued at an 8% interest rate. Hence, a fund that invests in the bond offering 6% interest will realise a fall in its Net Asset Value, thereby offering lower profits to investors.
Types of Gilt Funds
There are two types of gilt funds:
- Gilt funds that invest in government securities with varying maturity periods.
- Gilt funds that allocate resources primarily to government securities with a maturity period of 10 years.
Interestingly, these government securities set the benchmark for interest rates in the economy and the money market in general.
Note that the Securities and Exchange Board of India (SEBI) has made it mandatory for gilt mutual funds to invest a minimum of 80% of its pooled money in government securities. The rest 20% can be invested in any other kind of bond.
Best 5 Gilt funds to Invest in Right Now
If you want to generate risk-free returns by investing in securities issued by the government, here is a table of top 5 Gilt funds with a 10-year constant duration:
| Gilt Fund | NAV | AUM | 3-years Performance | 5-years Performance |
| ICICI Prudential Constant Maturity Gilt Fund-Growth | Rs. 19.6749, as on 18th Feb 2022 | Rs. 326.66 crore | 9.7% | 8.5% |
| SBI Magnum Constant Maturity Fund-Regular Growth | Rs. 16.5789, as on 18th Feb 2022 | Rs. 710.31 crore | 8.28% | 8.01% |
| IDFC Govt. Securities Constant Maturity Fund-Regular Growth | Rs. 36.4890, as on 18th Feb 2022 | Rs. 275 crore | 9.28% | 8.96% |
| Axis Gilt Fund-Regular Growth | Rs. 20.43, as on 18th Feb 2022 | Rs. 138.73 crore | 8.98 % | 6.45 % |
| Kotak Gilt Fund-Regular Growth | Rs. 78.2684, as on 18th Feb 2022 | Rs. 2,024.10 crore | 8.24% | 7.03% |
Please note that the order of funds doesn’t suggest any recommendations. Investors may choose the funds as per their goals. Returns are subject to change.
Who Should Invest in Gilt Funds?
Risk-averse investors looking for debt instruments to invest in can choose gilt funds as their mode of investment. As gilt funds mostly invest in Government securities ranging from mid- to long-term horizon, the risk factor is quite less compared to equity funds and bond funds. Gilt fund tries to provide moderate returns with preservation of capital.
Compared to equity funds, gilt funds aim to provide better asset quality despite generating lower returns. So, if you’re a risk-averse investor looking to invest in government securities, you can try investing in gilt funds.
Points to Consider Before Investing in Gilt Funds
Investors may consider the following factors to maximise the benefits of gilt mutual funds and balance their associated risks.
Risk
Government backing makes such funds relatively safer than most other mutual fund types. However, gilt funds are not entirely risk-free. They are prone to interest rate risk, and their net asset value is sensitive to changes in market interest rates, as demonstrated above. This means the NAV of gilt funds tends to drop when market rates rise and vice versa.
Return
The returns on gilt mutual funds depend largely on the prevailing repo rate, which the RBI fixes. A hike in the repo rate lowers the profits earned from gilt funds, whereas a dip in the same increases the returns on investment. This is because a repo rate cut leads to a decrease in interest rates, which in turn boosts the price of bonds. Since gilt mutual funds typically invest in long-dated bonds, the returns from them may increase significantly.
Generally, gilt funds deliver consistent returns. This is because the repo rate does not frequently change, except under special conditions.
Investment Horizon
As discussed, gilt funds mostly invest in government securities that usually come with a short to medium-term maturity period. Investors should keep this and their investment goals in mind before buying gilt mutual fund units.
Expense Ratio
Essentially, the expense ratio is the annual fee AMCs charge on returns to cover the costs of managing a mutual fund. It is shown as a percentage of a gilt fund’s average asset under management.
Though the SEBI has set the upper limit of this ratio for debt funds at 2%, it tends to vary per the fund manager’s investment strategy.
Taxability of Gilt Funds
The capital gains from gilt mutual funds attract taxes depending on the holding period. The capital gains you earn on fund units held for less than 3 years will be treated as short-term capital gains. It will be taxed per the income tax slab after being added to your annual income. On the other hand, gains on fund units held for more than 3 years will attract long-term capital gain tax at 20% with indexation.
On that note, let us now discuss the benefits and limitations of investing in gilt funds in brief.
Also Read: Types Of Mutual Funds
Perks of Investing in Gilt Funds
Low gilt credit risk
Gilt funds have significantly lower associated risks compared to regular debt funds that primarily invest in corporate bonds. This is because the government is more likely to repay its debts than other entities. Accordingly, there are minimal chances of you losing out on your investment, although the returns might be moderate.
Moderate returns
In the last couple of years, the best gilt mutual funds have delivered consistent returns between 10% and 15% annually, according to a study by IIFL Securities. This is relatively higher than most other fixed-income investment options, such as bank fixed deposits and recurring deposits.
Exclusive investment instruments
Certain government securities are not available to retail investors but are open to subscription for institutional fund houses. So, by investing in gilt funds, individuals can invest in the exclusive securities indirectly.
Drawbacks of Investing in Gilt Funds
Prone to interest and inflation risk
As discussed previously, gilt funds can deliver fluctuating profits due to changes in interest rates. Moreover, government securities with a maturity period of 5 years or longer might not offer inflation-adjusted profits.
Illiquidity
When compared to corporate bonds, gilt funds are highly illiquid. This means investors cannot exit gilt funds as and when they intend to. These funds also come with a pre-fixed lock-in period.
Lower profits
A simple rule of investing is “higher risk, higher returns.” As Gilt funds are safe investments with moderate to low risks the returns are not as high as that of equity investments. Furthermore, profits keep fluctuating due to changes in repo rate.
Also Read: Hybrid Mutual Funds
Who Should Invest in Gilt Funds?
After knowing the advantages and risks that 10-year Gilt funds carry, the question is if they are a suitable option for you. Given that the fund manager will invest in low-risk debt securities, Gilt funds are an ideal choice for risk-averse investors.
However, investors should be aware of the market fluctuations while opting for these mutual funds. Knowing when to enter and exit is crucial to the profit you will make. During a recession and falling interest rates, Gilt funds can be a favourable addition to your portfolio.
Moreover, for conservative investors falling in the higher-income bracket, these funds are more tax-efficient than fixed deposits.
How to Invest in Gilt Funds
You can invest in gilt funds either directly through Asset Management Companies or via third-party aggregators. However, consider your financial goals, returns, investment horizon, etc., before investing.
In case you’re looking to invest in index funds, try Navi Mutual Fund. With Navi Mutual Fund, you can unlock the power of compounding through low-cost index funds. If you’re just starting your investment journey, you can invest via SIPs (Systematic Investment Plans) with just Rs.500.
Final Word
Gilt mutual funds are risk-free investment options and a viable alternative for bank fixed deposits and other such traditional options. However, the lack of liquidity and risk of losing returns due to fluctuation in inflation and interest rates are considerable with these mutual funds. To make an informed choice about investing in gilt funds, one can refer to the guide above.
Alternatively, those who are planning to invest in a liquid option that offers returns mimicking benchmark indices can consider investing in index funds such as NAVI Nifty 50 Index Fund. These are not entirely devoid of risks. However, its “no exit load” facility and the ability to mimic the highs of the benchmark index help generate significant returns.
Navigate to Navi Mutual Fund to begin your journey as an investor.
Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.
FAQs on Gilt Mutual Funds
Ans: Gilt funds may feature a lock-in period extending up to 5 years, depending on the scheme. Investors can exit the fund scheme only after the lock-in period is over.
Ans: Gilt funds have the potential to provide better than FD. But since it’s linked to market performance, the risks are higher than regular fixed deposits. However, compared to other mutual funds, gilt funds can be a safer bet for risk-averse investors. So yes, if you’re looking for low-risk but better return generating investment vehicles, gilt funds could be a better alternative for regular FDs.
Ans: Mutual funds are subject to market risk and the same is the case for gilt funds. However, since gilt funds mostly invest in government securities, the risk factor is quite low compared to equity and bond funds.
Ans: Gilt funds are a type of debt fund that primarily invest in state and central government issued securities.
Ans: In most cases, gilt funds are considered to be risk-free, mostly because these are government-backed. Accordingly, the risk of losing the principal amount is pretty low.
Ans: These funds can generate poor inflation-adjusted returns. However, negative returns are highly unlikely in this case.
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Disclaimer: Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.
This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.
