Liquid Funds - Best Option to Park Your Money

As the name suggest, Liquid Fund are specifically created for short-term investments, liquidity and above average returns.

Liquid Funds are a type of mutual funds that invest in a range of debt instruments with a maturity period of 91 days. Liquid funds don’t have a lock-in period and since the instruments just have a maturity period of 91 days, the risk is less.

The liquidity offered by liquid funds is not offered by any other instrument. Instant-redemption is inherent to liquid funds and one can withdraw certain amount and have it in your account in 25 hours.

It has long been a custom to save money in traditional savings options like fixed deposits. The primary reason for it was security and stability. These instruments were time-tested and still have their place in the investment spectrum. Technological advancements have further made these instruments convenient and easy to use.

These instruments, however, are lacking in decent, inflating beating returns. It’s true they offer modest returns with stability but there are modern instruments which might offer more. This is where liquid funds come in.

Typically, Liquid mutual funds invest in money market instruments like treasury bills, corporate papers, bank certificate of deposits, etc. All these are Zero or Low risk instruments which offer fixed returns and have a fixed maturity period. As a rule, liquid funds invest in instruments with a maturity period of upto 91 days, which make it an ideal investment vehicle for short duration investment. Most of the investors earlier were institutional investors like corporates and banks but slowly retail investors have also been increasing. AMFI data show that, liquid fund assets under management (AUM) have grown by 13% since October 2016.

Now, we come to the advantages,

• Key advantage with liquid funds is returns
• The maturity period of instruments is 91 days, the liquid funds NAV does not fluctuate that quickly, so the returns are stable and continuous
• Les Risk
• Liquids Funds have been able to generate 7.7 % to 10% returns annually
• Low expense ratio as SEBI has capped the maximum expense ratio to be at 2.25%, this is lower than most debt instrument
• Superb liquidity. Many companies offer the ‘Instant-Redemption’ feature wherein you can instantly withdraw a certain amount whenever you need, anytime
• No entry or exit loads for more convenience and low cost
• Liquid Funds are also Tax efficient
• Great for creating an emergency fund

Most savings bank account offer only 4% interest on the money lying dormant there.

It so happens that during an inflationary period, the Reserve Bank of India (RBI) keeps interest rates high to tighten liquidity. This also allows liquid funds to post good returns. Inflation is a real worry when it comes to traditional savings instruments. Rise in inflation makes things costlier and purchasing power of citizens go down resulting in lower returns.

Liquid Funds work as per the market so the returns are great but not guaranteed. As with most mutual funds it pays to stay on for a longer period of time.

Tax Efficiency

Short Term Capital Gain - Short Term Capital Gain (STCG) for holding period of less than 3 years is taxable at marginal tax rate.

Long Term Capital Gain - Long Term Capital Gain (LTCD) for holding period of more than 3 years is taxable at 20% after indexation.

Essentially, it’s not about if liquid funds are better than bank FDs but which instrument can pave the way for great returns. The person income, risk tolerance, expenses and such factors also play a key role in deciding which liquid funds can help. The surplus amount is best parked in liquid funds.