At some point across the investment journey, every investor encounters a situation where the funds need to be invested for a very short period of time before requiring an access to them. The investor looks for an option where the money can be parked for a short period of time, but there should not be any drop in the investment value. The investment period is usually short or not known. The most common investment instrument serving the purpose here could be Bank Fixed Deposits. The money invested in Fixed Deposits is usually safe, but one of the biggest limitations of Fixed Deposits is that the money can be invested for fixed horizons. There is no flexibility with respect to withdrawal of the investment amount..
In such situations, investors look for alternatives to fixed deposits and this is where liquid mutual funds or simply liquid funds come into play. Liquid funds are basically a type of debt fund, which offer a safe investment with the flexibility of withdrawal. The returns on liquid funds are usually not very high but they are far more than what you get on regular bank savings account or short-term fixed deposits. All these factors make liquid funds one of the preferred choice of investors.
1. What are Liquid Funds
Liquid funds fall under the category of debt funds. Liquid funds usually involve investments in fixed income instruments which include treasury bills, commercial papers, government securities, etc. The maturity period is usually up to 91 days. Liquid funds usually have no lock in period or a very little lock in period. All the withdrawals from these are processed within 24 hours on all business days. Liquid funds enjoy the lowest risk across all the classes of debt funds. This is due to the reason that they invest primarily in fixed income securities with very short maturity period. There is no entry load or exit load applicable with liquid funds. .
Unlike other mutual funds, the Net Asset Value (NAV), in case of liquid funds is calculated for the whole year or 365 days, whereas in case of other mutual funds the Net Asset Value is computed for a single business day at a time.
2. Who should invest in Liquid Funds
All those investors, who want liquidity and can compromise on high returns can consider liquid funds as the preferred investment option for investing idle money. However, if you plan to invest your emergency corpus of contingency fund in liquid funds, it should be planned considering the fact that in case of any requirement, the investor will get the money on the next working day. Liquid funds are secure and generate greater returns compared to most of the savings bank account which make them a viable option for short term goals. Liquid funds are often treated as a stepping stone into equity funds by many investors. In this case, investors start by investing in liquid funds and then transfer gradually into an equity fund. This benefits from Rupee Cost averaging and invests in equity funds in a phased manner.
3. How to Evaluate Liquid Funds
The key criterion to evaluate any liquid fund before investing in them are as follows:
- Fund Return: The performance of any fund plays a significant role in selection of a fund. Selecting a fund which has performed consistently by delivering good returns over different investment horizons is preferred. The funds which outperforms the competition should be an obvious choice.
- Fund History: The fund house should also have a good and consistent performance history in the mutual fund domain. The record of last few years should be analyzed before finalizing a fund from any fund house.
- Expense Ratio: The lower the expense ratio the better will be the fund. Expense ratio shows how much amount of your fund is used to manage the expenses of that fund. There will be higher take home returns for obvious reasons if the expense ratio of a given fund is low.
- Financial Ratios: Apart from the usual returns associated with a fund, there are other financial ratios too which are used to analyze the performance of any mutual fund. Standard deviation and beta are the most common financial ratios used to analyze fund performance.
4. Top Performing Mutual Funds
There are numerous parameters to consider while selecting any liquid fund for investment. You need to consider your personal parameters as well like your investment goals, risk profile etc. Investment in any mutual fund is subject to risk and the returns are subject to change. Based on the above parameters some of the top performing liquid funds include:
Conclusion
While investment in liquid funds has a low risk, there is no investment which can guarantee you returns without risk. It is important to have complete idea about the fund. You should get your risk profile analysis to know your risk appetite.
