Liquid Mutual Funds: Notes

What are Liquid Mutual Funds?

Liquid funds are the safest category of mutual funds. They are also known as cash funds. These funds invest in fixed return instruments of short maturities. Examples of such investments include Treasury Bills, Commercial Paper, and Certificates of Deposit.

Treasury Bills (T-bills): These are short-term government securities with maturities of no more than one year. They are considered risk-free because they are issued by the government.

Commercial Paper (CP): This is a debt instrument issued by companies to meet short-term financing needs.

Certificates of Deposit (CD): This is an interest-bearing, short-term debt instrument issued by a bank.

Aim of Liquid Mutual Fund

Their main aim is to preserve the principal and earn a modest return, so the money you invest will eventually be returned to you with a little something added. Considering that money market instruments are some of the most secure instruments, these funds are good investments for conservative investors for their short-term investment needs. 

Analysis of the instrument

The credit quality of the investments is high therefore the risk of default is low. The maturity is low so the loss due to the adverse movements in the interest rates is negligible. Though the returns are not fixed (as in case of a bank deposit), the risk of losing money is minimal.

Please Note: A long-term fixed-return instrument gets affected as interest rates change in the economy.

Return Illustration

Expecting a 6-7% per annum (average) is quite reasonable. 

Some Prominent Liquid Funds

• LIC MF Liquid
• Templeton India Low Duration
• Birla Sunlife Cash Plus
• DSP ML Liquidity
• UTI Liquid – STP
• Reliance Liquid Fund – Cash Plan

You must know:

There is no entry load or exit load for majority of the Liquid Funds. However, some funds charge an exit load of 1%, if the fund is redeemed before 1 week.

Also, these funds have very low expense ratio (the charges for handling the fund). Minimum amount you have to deposit for the first time is usually 25 thousand to open your account. (Differs with fund houses)However, you can remove any amount from you account after that.

Advantages of Liquid Funds over savings deposit (S/B Accounts)

1. The biggest advantage of Liquid Funds over savings account deposits is the interest rates. Savings accounts in India provide an interest rate of 4% P.A (per annum) over the average balance maintained in the account. (Some private banks even give this 4% over the lowest balance maintained in the account). However, Liquid Funds on the other hand provide on an average 6-7% P.A. (modest).
2. The second advantage is with respect to availing the interest accrued on the principal. In case of Savings Bank Account, if you want to avail the interest on the principal you have to wait till the end of that quarter. However, in case of Liquid Funds whenever you redeem your fund you will get the principal plus the interest accrued.
3. There is no minimum balance maintenance requirement. Once the account is opened with the minimum amount (25 thousand), you can keep any amount in your folio.

Concerns:

The first concern against Liquid Funds is the instant liquidity: Consider 2 cases, on one hand, you decide to take out some money from your Savings Account (Traditional Way). You go to the bank and deposit the withdrawal slip and you have cash in hand. There are even faster ways such as ATM and e-transfer to facilitate this.

However, in case of liquid funds, you go to the mutual funds office and submit the redemption form and the money is transferred to your linked savings bank account within 24-30 hours.
The second concern against Liquid Funds is the Dividend Distribution Tax (DDT) applicable (deducted at AMC end, including surcharge and cess) of around 27.04%.

Last words:

Hence if you want to make an efficient use of your capital, don’t let inflation eat into it by simply keeping it in a savings bank. Keep only that much amount, which you will require in hours notice in a bank with ATM facility and deposit the remaining in a good Liquid Fund.

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