Mutual funds are often touted to be one of the best ways to invest in the stock market. One of the reasons for that is that there are multiple different types of mutual funds, each one catering to different financial goals and risk tolerance levels. However, the more the choice, the harder it is to choose the right fund to invest in.
As an investor, you need to be aware of the various kinds of mutual funds to be able to make an informed investment decision. In this article, we’re going to take a look at liquid mutual funds and the benefits that you get to enjoy by investing in them. So, without any further ado, let’s begin by addressing the meaning of liquid mutual funds.
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What is a Liquid Mutual Fund?
Liquidity in the stock market is the measure of how easy it is to convert an asset into cash and vice versa. An asset that’s easy to buy and sell in the market is said to be highly liquid.
A liquid fund is a type of mutual fund that pools money from investors and invests predominantly in highly liquid instruments. This includes money market and debt instruments with short tenures such as Treasury Bills (T-Bills), Certificates of Deposit (CDs), Commercial Papers (CPs) and Collateralized Lending & Borrowing Obligations (CBLOs). Most of the instruments that liquid mutual funds invest in have tenures of up to 91 days, which makes them very liquid. Redeeming the units of a liquid fund is also very easy and takes only T+1 day to process.
What are the Benefits of Investing in Liquid Mutual Funds?
Now that you’ve understood the meaning of liquid mutual funds, here’s a closer look at some of their benefits.
1. High Liquidity
As you’ve already seen before, the primary feature of liquid mutual funds is high liquidity. Most traditional fixed-income instruments feature some kind of a lock-in period that forces you to stay invested till the end of the lock-in or the tenure itself. With liquid funds, however, you don’t have to stay invested for more than you want to.
Firstly, the tenure itself is very short. And secondly, you can redeem your units at any point in time before the end of the tenure without any hassles whatsoever. Once you place your redemption request, you will receive the funds in your account within T+1 days.
2. Low Volatility
Since liquid mutual funds typically invest in money markets and debt instruments, they don’t suffer from excessive amounts of volatility like funds that invest in say equities. This makes it a great investment option for senior citizens and people with low-risk tolerance.
3. Low Default Risk
Liquid mutual funds invest in government-backed instruments, which carry zero default risk. Additionally, they also invest in debt and money market instruments of the corporations. However, these instruments are usually highly rated by credit agencies (AAA or above). Thanks to such high ratings, liquid mutual funds often carry little to no default risk.
4. Low Expenses
The expense ratio is the fees that the mutual fund house charges the investor for managing the fund. A major advantage of liquid mutual funds is that they come with very low expense ratios compared to other mutual funds. This ensures that your costs are kept low and your returns don’t take a huge hit. Additionally, most liquid funds don’t levy any exit loads, which means that your returns won’t take a hit when you place a redemption request.
5. Better Returns
Most risk-averse investors and senior citizens prefer investing in bank deposits since they feel that they’re considerably safer than other investment options. While that may be true to a certain extent, the only thing about them is that the returns are generally lower. Liquid mutual funds, on the other hand, produce returns that are in the 7% to 7.5% ballpark, which is higher than most bank deposits.
6. Ideal for Parking Idle Funds
Investors typically park idle funds in a savings bank account. However, the returns from a savings bank account typically range anywhere between 3% and 6%, which is lower than the average returns provided by a liquid mutual fund. This makes liquid funds a good investment option for parking idle funds.
7. Price Discovery
The Net Asset Value (NAV) of most other mutual funds is only available during the weekdays. In the case of a liquid mutual fund, however, the NAV is calculated at the end of every single day, even on weekends. The price discovery mechanism of liquid mutual funds is in real-time, which is not the case with other mutual funds.
Conclusion
With this, you must now be aware of what a liquid mutual fund is and the various advantages that they offer. If you have idle funds or are looking for a low-risk investment option that’s also highly liquid, consider investing in liquid mutual funds.
That said, before you proceed to invest, make sure to first open a demat account. It is a mandatory prerequisite for investing in mutual funds or any other market-linked investment options like stocks, bonds or upcoming IPOs. Head over to Motilal Oswal today to open a trading and Demat account for free within minutes.