KNOWLEDGE CENTRE Debt Funds / What Are Credit Opportunities Funds?

What Are Credit Opportunities Funds?

If you are a regular investor, you will be well aware of the different investment options available in the market. Before making an investment decision, it is important to lay out financial goals and determine the purpose you are investing for. Considering the volatility of the market, most investors choose to invest in mutual funds for low risk and high returns.

Credit opportunity funds are debt funds, which invest in corporate bonds and focus on the accrual of interest i.e. the income received in the form of coupon payments on the bonds. These funds have a high coupon rate, which allows investors to receive higher returns in the form of accrual of interest as compared to the interest rate on fixed deposits. On the other hand, they have a high risk since their credit rating, which is an indicator for investors, is quite low.

How Do Credit Opportunities Funds Work?

These funds do not depend on the movement of interest rate for generating returns. Instead, they generate returns by investing in bonds that give a higher yield and are rated low. This helps you achieve your short-term and medium-term investment plans. In certain cases, investors may also make returns in the long term. If there is an upgrade in the credit rating of the bond, it will lead to an appreciation in the market price of the bond.

What are the risks associated with credit opportunities funds?

Higher returns come with higher risk. Bonds have a higher risk as compared to other fixed-income securities since they have a low rating such as AA, A, or below. They have a high exposure with little security. The rating of the bond has a huge impact on the returns. If the rating falls, the value of the bond will go down and this could erode the entire returns from the fund.

What are the taxes on credit opportunities funds?

The taxes applicable on credit opportunities funds are similar to what is charged for other categories of debt funds. If you redeem you mutual fund units within one year, then the short-term gains will be added to your income and you’ll taxed according to the tax slab you fall under, whereas if you invest for more than one year, you will be taxed at 20% of your capital gains but with indexation benefit.

Why should you invest in credit opportunities funds?

The reason behind choosing these funds is their return rate. The interest rates across different investment assets are coming down, but a number of funds in this category have given an annual return of more than ten percent. Since they are short-term to medium-term, they are highly liquid and offer flexibility in terms of investment and withdrawals. Investors hold these funds primarily to cover up for the risk exposure from equity. It helps in the diversification of portfolio and lets you streamline your investment plans. The funds try to maximize returns and gain from the appreciation in credit ratings.

Due to the lack of investment options that offer high returns, investors are making aggressive investments in credit opportunities funds. It is advisable to compare the performance of various bonds before making an investment. Learn about the impact of ratings on the performance and then make the decision to invest. Your investment plans should focus on long-term financial goals and the tenure you wish to remain invested for. If your sole aim is to save money and diversify your portfolio, you may choose to invest in credit opportunities fund. Again, if you are looking for high returns in a short period, this is a good choice. But do not over-invest in the fund since it carries high risk and is affected by market ratings.

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