All You Need To Know About Target Maturity Funds

Passive debt funds are slowly gaining acceptance among investors. The biggest category of passive debt funds that provide a host of options to investors are Target Maturity Funds.

These ensure that investors have a fixed deposit-like option in the debt mutual fund space and also enable them to plan for their goals without worrying about interest rate risk.

The nature of these funds and how they operate are key to using them the right way.

Target Maturity Funds are debt-oriented funds that mature on a particular day. This means that the fund will cease to be in existence on a specified date.

The key part of the fund is that the instruments that are included in the portfolio will mature at or around the maturity date. In other words, the fund will buy instruments that they will hold till maturity.

These funds are usually based on a specific bond index, so the portfolio is also decided by the constituents of the index being tracked, and this makes them passive in nature.

Target Maturity Funds can be of two types—Exchange Traded Funds or Fund of Funds.

ETFs have the benefit of liquidity on the stock exchanges, as they are traded on a daily basis, potentially making entry and exit easy. At the same time, for those investors who do not have a demat account or trading account, there is also an option of a Fund of Funds for such schemes which allows them to access the investment like a traditional mutual fund.

The approach to investing in Target Maturity Funds should be based on an individual’s goals. When a particular goal needs a debt exposure and the time period of the goal is fixed, the investor can use the option of a Target Maturity Fund.

For example, if an investor has three goals that culminate in 2025, 2027 and 2032, they can use Target Maturity Funds maturing in those years.

There is high flexibility that is available, both in terms of choice as well as amount of investment to be made, because both Exchange Traded Funds and Fund of Funds provide the ability to the investor to add to their investments.

A key benefit of using Target Maturity Funds that mature after several years is that it eliminates worries about interest rate risk, if the investment is held till maturity.

The investor is, in effect, locking into the yield at the time of their investment if they hold the fund till its maturity date. The ups and downs in the prevailing interest rates in the interim will not have any impact on their final goal.

The presence of liquidity is another big benefit for the investor and also the fact that they can choose a separate fund for each goal. There is also a taxation benefit for holdings over more than three years because this is classified as long-term capital gains, which is taxed at 20% with the benefit of indexation.

Indexation allows for the return to be adjusted for inflation and it brings down the effective tax rate to negligible levels.

Bharat Bond ETF, which invests in the constituents of the Nifty Bharat Bond indices has holdings in AAA-rated public sector companies and has different maturity options available for investors, namely those maturing in 2023, 2025, 2030, 2031 and 2032.

Now, it is introducing a 2033 option, so investors who are looking for this instrument for investment need to consider several factors before making their decision.

One is that they should have a goal that should match with the time period of the maturity of the fund that is being chosen. They should also take a look at the portfolio of the companies that are included in the offering and understand the yield-to-maturity that is present when they invest.

Arnav Pandya is founder, Moneyeduschool.