Introduction to Ultra Short Term Funds
As per SEBI guidelines Ultra short term mutual funds are debt funds that primarily invest in liquid fixed income generating instruments for periods up to a maximum of 6 months. These funds invest in instruments such as treasury bills, corporate bonds, government bonds, etc., offering better returns than a regular savings bank account and a high degree of liquidity. The risks are often mitigated primarily due to the shorter time period of the funds, thereby keeping risk to a minimum compared to liquid funds.
Advantages of investing in the best ultra short term mutual funds
One of the primary advantages of these funds is that they are the perfect instrument for superior returns in a short period. Assuming that all other factors stay constant, an investor can expect potentially higher returns of up to 6%-7% from Ultra Short Term funds.
Unlike long term funds, the interest rate changes do not significantly affect the ultra short-term funds. With comparatively lower risk levels and the potential to earn returns better than bank deposits, these funds are the best way to use surplus funds for short-term goals.
The total expense ratio (TER) and the exit loads on an Ultra short term fund is much lower than short-term funds. The average expense ratio for an Ultra Short Term fund is around 0.2-0.5%. Hence, UST funds can generate potentially higher returns post expenses, beating fixed deposits.
Things to consider before investing in the best ultra short term funds
These funds are less sensitive to market interest rate fluctuations, unlike other funds. However, they are riskier than liquid funds. The fund manager's investment strategy may create credit risk if he integrates assets with poor credit-rated securities. Furthermore, the addition of government securities may cause the fund's volatility to rise above what was intended.
Assuming that all other factors stay constant, an investor can expect returns of upto 6%-7% from these funds. Though the returns are comparatively higher they aren’t guaranteed. The fund's Net Asset Value (NAV) decreases when the overall interest rates rise across the economy. Thus, they are appropriate for a system of declining interest rates.
To meet financial goals
While these funds may be used for a variety of purposes they can come in particularly handy for meeting short term financial goals. If you want a regular flow of income, park a lump sum in this and initiate an SIP for a periodic and regular cash flow.
Cost of Investment
This includes expense ratio and exit load. Investment companies charge a fee called expense ratio which includes management fees (fees of fund manager) and operational costs. The lower the expense ratio and exit load, the higher the profit. The average expense ratio for a Ultra Short Term fund is around 0.2-0.5%
The rate of taxation depends on how long you stay invested in this fund. Capital gains made within three years come under Short-term Capital Gain (STCG) and are taxed at your tax slab rate. Capital gains earned over three years or more come under Long-term Capital Gains (LTCG) and are taxed at the rate of 20% after indexation and 10% without the benefit of indexation.
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To conclude, Ultra short term funds provide reasonable returns with sufficient liquidity. The low maturities make the fund less sensitive to interest rate movements in the market. The fund has the potential to offer higher growth than other long maturity debt funds during a rising interest rate regime.