Money Market Funds - What's Hidden Beneath?
MF shots (part 5)- is an exclusive series of article which will try to explain in each category of mutual fund that exists. This article focuses on Money Market Funds.
Estimated Time to read - 4 minutes
Before we understand about low duration funds, here’ a recap of other short term debt funds I have covered till now (in case you missed out) –
1. Overnight fund – invests in securities with maturity of 1 day.
2. Liquid fund – invests in securities with maturity of 91 days.
3. Ultra short duration funds – invests in securities with maturity of 3-6 months
4. Low duration funds - invests in securities with maturity of 6 months to 1 year.
Brief –
When one looks for short term investment options liquid fund & money markets are the most common investment options that are easily recalled by majority of investors. The category holds Rs. 1.17 Lakh crores of AUM cumulatively(as on 16 October,2021, Source - Moneycontrol), reflecting the popularity of the category as a whole. This category can invest in securities with maturity upto 1 year which provides a high level of flexibility in investing the fund.
Investment Objective –
To provide returns slightly higher than other short term investments (Fixed deposit, overnight funds). They are almost similar to Low Duration Funds, which invest in a mix of corporate & government securities with an exception that Money market funds can invest with a time horizon of 1day upto 1 year without any restrictions.
Suitable for which type of goals –
Goals having time horizon upto 1 year.
Risk Levels –
Low to medium – The risk levels seem to be low to moderate (higher than low duration funds) as these funds primarily invest in government securities, government backed companies or corporates. They invest in govt./ govt. owned companies to take care of liquidity & default risk which might be faced in corporate securities. The yield enhancement is done by adding corporate securities which yield more than government securities.
What parameters to check in Money Market Funds –
1. Expense ratio –
Debt funds have lower returns compared to equity funds. Hence, with the lower returns, it becomes even more important to give a careful look at the expense ratio.
2. Holdings in the portfolio –
Ensure you give a proper look at the mix of corporate & government securities with their credit ratings. The credit rating of the portfolio companies & their yield decide the returns you will earn.
What to avoid –
1. If you are investor with low ticket size – Avoid this category totally.
2. Taxation of 20% with indexation after 3 years & added to income before 3 years applies to this category. Hence, the returns earned should be justified post tax too.
3. Too high expense ratio – the expense ratio varies from 0.10% to 0.26%. Avoid funds which have expense ratio too high that don’t justify the category returns which more or less are same.
4. Too high % of portfolio in corporate security which is of lower rated companies.
Interesting insights from this category –
1. The standard deviation of 1 year to 5 year returns is below 1% reflecting more or less similar performance of the category.
2. Kotak Money Market Fund has 0.26% expense ratio & Rs. 11,435 cr. Of AUM.
3. Majority (12 funds) have expense ratio greater than 0.20% where 1 year returns are 4%, i.e. 5% of the returns are eaten up by expense ratio without even considering taxes.
4. Rs. 1.08 cr of AUM (90%+) is concentrated in 10 funds.
Concluding thoughts –
This category holds in some medium risk investments (corporate securities) which might be of lower credit quality or too high % in corporate securities which might cause a risk to “Return of Capital”. Each fund is unique in itself because of its portfolio but a too high expense ratio isn’t justified as the returns have been in line for all the funds with a range of (+/- 1%). It is useful for institutional investors.
If you are a retail investor try avoiding this category as –
“If you have horizon of 1 year why not invest in Fixed Deposit & earn 4.9% (of ICICI & HDFC Bank)?
Bonus - The FD returns don’t charge any expense ratio.“
Notes -
The complete list of all money market funds can be downloaded from here.
Next article would be focused on short duration funds which is the last category in the short term bond funds.
Holding a mutual fund which you can’t analyze? Let me know in the comments, would definitely try to analyze it.
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