Investing in Debt Funds

Debt securities (bonds) are a fundamental part of an investing plan for most investors. There are many typesof bonds along with varied approaches to debt fund investing, each with their own advantages and levels ofrisk. Although stocks have historically outperformed bonds over the long term, there are a number of reasonsto include a debt fund in a diversified portfolio, including:

Income• Debt Funds generally offers higher yields than equities or other securities as well as regular coupon

payments, providing bond owners a potentially attractive, regular income stream.

Capital Preservation• Some investors may not want to take a significant amount of risk with their portfolios. Bond prices,

especially those of high-quality bonds, tend to be less volatile than other securities, typically offeringinvestors a lower risk profile.

Diversification• Debt securities have historically demonstrated a low correlation to equities, meaning there is little

relationship between how the two asset classes have performed over a given time. Therefore, owning debtfunds along with equities adds a potential risk-reducing effect to an investor's portfolio.

What are the risks involved in debt investing?Investing in debt funds entails specific kinds of risks. Interest rate risk affects all debt funds investing, andcredit and cash flow risk relate more to specific individual investments.

Interest Rate Risk• A broad risk associated with buying and holding fixed income investments is interest rate risk—the

possibility that the relative value of a bond will decline due to an interest rate increase. In general, asrates rise, the price of a bond will fall, and vice versa.

Credit Risk• This includes default risk, which is the risk that a bond issuer, usually due to financial hardship, will be

unable to fully repay the loan represented by the bond. If an issuer is expected to have difficulty inmeeting its payment obligations, its credit rating could be lowered, negatively affecting its value. This isknown as credit quality risk. Individual bonds are also prone to event risk—the possibility that a business,economic or political event will negatively impact the value of the investment. Event risk is largely aconcern in corporate bonds, which are bonds issued by companies. Government bonds are debt obligationsof the government that are backed by the "full faith and credit" of the government and, therefore, are notsubject to credit risk.

Cash Flow Risk• Though bonds have a stated maturity, some can be called away by an issuer ahead of its maturity date.

Some fixed income securities, such as mortgage-backed securities, have embedded call options which maybe exercised by the mortgage holder. The risk associated with the early return of principal on a fixedincome security is called prepayment risk. In contrast, extension risk is the possibility of a securitylengthening in duration due to the deceleration of prepayments. Both can diminish a bond's total returnand alter its risk/return characteristics.

10 February, 2012

Investing in Debt Funds

To help minimize cash flow risk, direct bondholders generally buy high-quality securities withoutembedded call options. While this does offset some risk, holding high-quality securities can causeinvestors to forfeit potentially higher investment returns.

How to invest in debt assets?There are a number of ways for investors to gain access to debt assets, including by purchasing individualbonds or investing in actively managed debt mutual funds. Because investors have diverse investmentgoals, there is no "one size fits all" approach to owning bonds. However, active portfolio management, ledby an investment team and driven by professional analysis, can provide a solid foundation to the fixedincome portion of many investors' portfolios.

The Benefits of investing in debt fundsWith active portfolio management, a portfolio manager and team of research analysts select securities inan attempt to offer shareholders index beating returns along with prudent levels of risk. There are severalstrategies unique to active portfolio managers and unavailable to more passive forms of investing. Thethree general areas where active management delivers value are: greater access to markets, fundamentalanalysis and advantages in the execution of trades on behalf of investors.

Access• Because they pool assets of many investors, managed portfolios buy both a larger number and wider

variety of debt securities than available to most individual bond buyers. This provides greaterdiversification—a strategy of owning dissimilar securities to help lower overall portfolio risk.

• AnalysisActive portfolio management channels the collective insight and analysis of a team of investmentprofessionals and equips the portfolio manager with flexibility to make adjustments to the fundsportfolio.

Portfolio managers have the expertise to pick and choose among the range of debt securities that theybelieve have the best potential, and can dedicate the time and resources needed to monitor portfolioholdings to determine if better opportunities exist elsewhere.

Central functions of active debt management include performing credit research, undertaking detailedanalysis, forecasting creditworthiness of individual debt securities and following larger trends in the debtmarket. These can help minimize risk and exploit market opportunities.

In addition, active investment managers conduct sector and sub-sector analysis to determine which partsof the debt markets appear attractive enough to emphasize in the portfolio. To combat interest raterisk, portfolio managers may adjust the duration of a portfolio if their research supports it.

• ExecutionInvestment institutions that run managed bond portfolios have relationships with large bond dealers andregional specialists that typically enable them to buy bonds at lower prices than those available to retailclients. The advantages of speed and size when making trades help investment institutions keep costs incheck, delivering value to the investor.

Investing in Debt Funds

Types of Debt Funds

Today, there are many options of Fixed Income Fund available to Indian investors –

Liquid Funds: These have lowest risk as the term of the securities that the fund invests in can not bemore than 91 days. These types of funds are mainly used for cash management. As the risk is low, theterm of your investment can be of even one day. The investors who maintain a high amount in theirsavings account or current account, Liquid Funds can be a good option for them.

Short Term Funds: The term of the securities that the fund invests in is mainly of three to five years.Because of this, the level of risk in these funds is more than liquid funds. These are mainly useful forthose investors who wish to invest their capital for a period of 6 months to 2 years.

Bond Funds: Investment in these funds should be made at the time when interest rates are likely todecline as the term of the securities that the fund invests in is typically for the long term. As a resultof this the risk factor is more than the pre-recognised funds.

Gilt Funds: These funds invest basically in the securities issued by the government of India. The riskfactor in these is mainly similar to the Bonds funds. But the risk is only related to interest ratemovement. As the investment is made only in the government securities, it doesn’t have a credit riskat all.

Fixed Maturity Plans: This is also called as FMP. In these kinds of funds it is necessary that there ispropriety between your term of investment and the term of Mutual Fund, as there is limited scope forwithdrawal of your capital before the due date as compared to the other funds. FMPs are listed onstock exchange(s) and one can sell units through the stock exchange if a buyer is available.

Monthly Income Plans (MIPs): MIP funds are mainly chosen as an option by the investors who arelooking for only a marginal exposure to equities. The endeavour of these funds is to give monthlyincome. But the monthly income depends upon the fact that the fund has a performance benefit withit.

If you had invested in any product of a bank or post office, it is necessary for you to have knowledge ofdebt funds and the possibilities of investment by them. For this you may need time and advice. Youcan spare time to invest in such types of funds keeping in mind your needs. Especially, when the ratesof interest are escalating today, you can earn more in the post tax return FMP.

Investing in Debt Funds

What are the risks involved in investing in debt funds?

There are no guarantees when investing in a debt mutual fund. Debt funds continually buy and sell theirsecurities to the public at the fund's daily determined net asset value (NAV).

A debt fund's NAV will fluctuate based on the value of its holdings and current market conditions,especially the current level of interest rates. There is no maturity date that a bond fund can provide as adeadline for returning the full amount of your investment.

In addition, it is not possible to determine an expected yield to maturity for a bond fund as you can withindividual bonds. With a bond fund, you receive whatever the bond securities are worth at the time youredeem your investments from the fund. It is therefore possible to sustain a capital loss from investing in abond fund.

Even if the individual bonds in the fund are guaranteed by the government or insured through a privateinsurer, the value of a bond mutual fund investment can still rise or fall.

DISCLAIMER

Statutory Details: DSP BlackRock Mutual Fund was set up as a Trust and the settlors/sponsors are DSP ADIKO Holdings Pvt. Ltd. &DSP HMK Holdings Pvt. Ltd. (collectively) and BlackRock Inc. (Combined liability restricted to Rs. 1 lakh). Trustee: DSP BlackRockTrustee Company Pvt. Ltd. Investment Manager: DSP BlackRock Investment Managers Pvt. Ltd. Risk Factors: Mutual funds, likesecurities investments, are subject to market and other risks and there can be no assurance that the Scheme’s objectives willbe achieved. As with any investment in securities, the NAV of Units issued under the Schemes can go up or down depending onthe factors and forces affecting capital markets. Past performance of the sponsor/AMC/mutual fund does not indicate the futureperformance of the Schemes. Investors in the Schemes are not being offered a guaranteed or assured rate of return. Investors in theSchemes are not being offered a guaranteed or assured rate of return. The Schemes are required to have (i) minimum 20 investorsand (ii) no single investor holding>25% of the corpus of the Schemes. In case of non-fulfillment of the condition of minimum 20investors, the investor’s money would be refunded, in full, immediately after the close of the New Fund Offer Period. In case ofnon-fulfillment with the condition of 25% holding by a single investor on the date of allotment, the application to the extent ofexposure in excess of the 25% limit would be rejected, and the allotment would be effective only to the extent of 25% limit wouldbe refunded/redeemed. The names of the Schemes do not in any manner indicate the quality of the Schemes, their futureprospects or returns. For Schemes specific risk factors, please refer the relevant Scheme Information Document (SID). For moredetails, please refer the Key Information Memorandum cum Application Forms, which are available on the website,www.dspblackrock.com, and at the ISCs/Distributors. Please read the Scheme Information Document and Statement ofAdditional Information carefully before investing.