Debt funds — the harder asset class
In this chapter: Credit, duration, and liquidity risk · The post-2024 tax change and what it means
Debt funds are misunderstood — they are not "safe equity" or "fixed deposit alternatives". They carry credit risk (default of underlying issuer), duration risk (price falls when rates rise), and liquidity risk (positions in less-liquid bonds may be hard to exit). Categories vary widely: liquid funds are near-cash; gilt funds have duration but no credit risk; credit-risk funds have low duration but high credit exposure.
Categories by primary risk: Liquid (near-zero duration, top-rated, near-cash). Ultra-short (1-3 months, slightly more risk for slightly more yield). Money market (up to 1 year, mostly money-market instruments). Short duration, medium duration, long duration: higher duration → more interest-rate sensitivity. Gilt: government bonds only, no credit risk but full duration. Credit risk: AA and below corporate bonds, higher yield but real default risk. Banking & PSU: middle ground, lower credit risk than credit-risk funds. Dynamic bond: tactical duration management. Each category serves a different purpose in a portfolio.
The 2024 tax change: debt funds redeemed after April 1, 2023 are taxed at slab rate (no LTCG, no indexation), regardless of holding period. This eliminated debt-fund tax advantage vs FDs. Now, the choice is functional: FDs for stability and certainty (locked tenure), debt funds for liquidity and slightly higher yield (open-ended, mark-to-market). For high-tax-bracket investors, FDs and debt funds are roughly tax-equivalent now. The decision criterion shifts from tax to operational fit.