Last Updated on Oct 11, 2022 by

This article is authored by Ashwin Patni, Head Products & Alternatives at Axis AMC. Ashwin is an alumnus of IIM Calcutta. He joined Axis AMC in 2010 as a Portfolio Manager – PMS and was later elevated to the post of Head Products.

Having a well-diversified portfolio in this ever-changing market is very important to survive through the tides of different market cycles and achieve long-term investment goals. Diversification means having exposure to multiple asset classes. Investors in Indian markets have access to multiple asset classes, i.e. equity, fixed income, gold, real estate etc., which can help them diversify their portfolios. But choosing asset classes also depends on an investor’s risk appetite and investment horizon.

For example, debt funds are less volatile compared to equity and provide relatively steady returns as it invests in safer instruments such as government securities, corporate bonds, money market, and others. Therefore, having a good mix of different assets in a portfolio is very critical to safeguard it from the downside risk. 

Within debt funds too, investors have multiple options including liquid funds, money market funds, overnight funds, short-term funds, corporate debt funds, floater funds, dynamic bond funds, credit risk funds, and others. Of late, investors can pick from a wide range of Target Maturity Plans (TMPs) that deliver index-linked returns.

How to select the right debt fund?

While investing in debt funds gives a balanced approach to the portfolio, you may find it difficult to choose the right debt funds. To make the selection process easier and more effective, you should refer to the debt fund factsheet that is released every month. The fund factsheet gives a clear picture of the fund, its objectives, past performance, qualitative indicators, riskometer, and other information.

While it can become a bit overwhelming to read a factsheet, here are key factors to look for in a debt fund factsheet and decide on a suitable fund for your portfolio. 

1. Look for Yield to Maturity

Yield to Maturity (YTM) is the indicator (and not a guarantee) of potential annualised returns a fund can generate for the investor if they hold it till maturity. For example, if a debt fund has a YTM of 5% and a duration of 2 yrs, assuming no change in the portfolio and interest rate scenario, the fund can be on track to deliver 5% (before expenses) as long as it is held till the maturity. YTM is largely determined by the credit quality of the portfolio that the scheme invests in: lower-rated securities offer higher yields as compared to higher-rated securities. 

2. Breakup of debt fund holdings

A debt fund is an allocation of investment between various debt instruments, including commercial papers, certificate of deposits, treasury bills, gilt securities, non-convertible debentures, corporate bonds and government bonds. Understanding the portfolio allocation within securities can help an investor identify the quality of the portfolio, which can be an important factor in the investment making decision. 

3. Check the Average Maturity (AM) of the fund

A debt fund has exposure to multiple debt instruments. The date of maturity of each of these instruments is likely to vary. Debt funds such as overnight funds, liquid funds, and ultra short-term funds primarily invest in instruments that have a shorter maturity. Hence the AM of these schemes is lower. Debt funds like long-duration funds and gilt funds have a higher AM as they primarily invest in bonds with longer maturity.

On the other hand, dynamic funds have the ability to change the AM based on the evolving interest rate scenario. AM has a direct relation with the interest rate sensitivity of a debt fund. This means that debt funds with a longer AM are more sensitive to interest rate changes as compared to schemes that have a short AM.

4. Understand the Modified Duration

Interest rates and bond prices are inversely proportional, i.e. when interest rates go up, bond prices fall and vice versa. Here, the ‘interest rate sensitivity’ of a fund and its impact on a scheme’s Net Asset Value (NAV) is indicated by Modified Duration (MD). If the modified duration of a bond is 5 yrs and if interest rates increase/decrease by 1%, then the bond price will decrease/increase by 5%, respectively.

Therefore, debt funds with a longer modified duration will see a greater movement in NAV depending on the movement of interest rates as compared to debt funds with shorter MD. Based on an investor’s risk appetite, they can choose a debt fund with lower or higher interest rate sensitivity.

5. Macaulay Duration

Macaulay Duration of the debt fund tells an investor when they will be able to recover the principal amount that they have invested. It is a measure of how long it will take for the ‘Principle’ of a bond to be repaid from the internal cash flows (earnings from interest and repayments) generated by the bond. This means that debt funds that have a longer Macaulay Duration will take longer to recover the principal amount invested from the bonds they hold in their portfolio.

It generally means that debt funds that have longer Macaulay Duration have greater exposure to longer maturity bonds as compared to schemes with shorter Macaulay Duration. Let us assume an investor has invested in a 10-yr bond with a 12% coupon having a face value of Rs. 1,000. The bond will give interest of Rs. 120 every year, hence an investor will recover the investment in 8.3 yrs before the maturity of the bond.

6. Credit quality

Credit ratings of debt funds are important indicators to show the credit risk and quality of the fund. The holdings of a debt fund are categorised based on credit ratings given by rating agencies, e.g. AAA, AA+, A1+ – etc. AAA signifies high quality that has lower credit risk and is well-suited for investors who want minimal risk.

On the other hand, lower-rated debt papers are high on risk and are likely to give higher yields. Depending on the risk appetite, an investor can decide on the fund basis the ratings of the fund’s holdings. While companies rely on external rating agencies, a robust internal research team also analyses the fund.


Debt funds’ performance is measured against a benchmark index, just like an equity fund. This helps an investor see how the fund has performed against its benchmark since inception. Though not the ideal way to determine future performance, it provides an insight into how well the fund has been performing in the past.  

Once investors understand how to apply these concepts to create a robust debt investment strategy, it is easier for them to make a well-informed decision of choosing the right fund that suits their risk appetite as well as their financial goals. It is advisable to always read and understand all the details about the fund before investing. 

Disclaimer: This press release represents the views of Axis Asset Management Co. Ltd. and must not be taken as the basis for an investment decision. Neither Axis Mutual Fund, Axis Mutual Fund Trustee Limited, nor Axis Asset Management Company Limited, its Directors or associates shall be liable for any damages, including lost revenue or lost profits that may arise from the use of the information contained herein. Investors are requested to consult their financial, tax and other advisors before making any investment decision(s). Statutory Details: Axis Mutual Fund has been established as a Trust under the Indian Trusts Act, 1882, sponsored by Axis Bank Ltd. (liability restricted to Rs. 1 Lakh). Trustee: Axis Mutual Fund Trustee Ltd. Investment Manager: Axis Asset Management Co. Ltd. (the AMC). Risk Factors: Axis Bank Limited is not liable or responsible for any loss or shortfall resulting from the operation of the scheme.  No representation or warranty is made as to the accuracy, completeness or fairness of the information and opinions contained herein. The AMC reserves the right to make modifications and alterations to this statement as may be required from time to time. 

The information set out above is included for general information purposes only and does not constitute legal or tax advice. In view of the individual nature of the tax consequences, each investor is advised to consult his or her own tax consultant with respect to specific tax implications arising out of their participation in the Scheme. Income Tax benefits to the mutual fund & to the unit holder are in accordance with the prevailing tax laws as certified by the mutual funds’ consultant. Any action taken by you on the basis of the information contained herein is your responsibility alone. Axis Mutual Fund will not be liable in any manner for the consequences of such action taken by you. The information contained herein is not intended as an offer or solicitation for the purchase and sales of any schemes of Axis Mutual Fund.

Past performance may or may not be sustained in the future.

Stock(s) / Issuer(s)/ Sectors mentioned above are for illustration purpose and should not be construed as recommendation.

Mutual Fund Investments are subject to market risks. Read all scheme-related documents carefully.

Ashwin Patni
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