The money one does not want to risk Capital loss on is typically invested in Debt instruments. However, Debt Mutual funds have schemes that invest across varied risk spectrums. The table below shows different schemes of Debt Mutual funds with the % of Assets deployed in different credit risk buckets (sovereigns are lowest risk, followed by AAA, AA and so on…lower the number of As, higher the risk) and returns over various time periods
- The risk embedded in different schemes vary
- Schemes that have a much higher portion of their Assets in lower rated instruments don’t have the return commensurate with the higher risk (3-year basis).
- Some Debt fund managers who have taken on higher risk have had these blow up when lower rated companies defaulted on their instruments
I would urge you to ask yourself the following
- If the intended purpose of debt investments is safety of capital, why would you risk capital loss for a slightly higher yield?
- If you could earn X% on an AAA bond, is an extra 1% return worth the risk?
Solidarity recommends that for debt investments, especially in India where legal recourse takes forever, return “of” capital, is more important than return “on” capital. Risk should be taken on Equities, not on debt. Restrict your debt investments to Sovereign Bonds or AAA instruments unless you understand the ability of the Debt Manager to recover the principal when the debt defaults.