What are the advantages of investing in Target Maturity Funds?

Over the years, investors have been moving from traditional savings products like fixed deposits, PPFs, and post office savings schemes towards debt funds in search of better tax-adjusted returns. However, the uncertainty of returns and the risk of losing their principal weighs heavily on them while making the shift. Target Maturity Funds (TMFs) are passive debt funds that offer several advantages over other debt funds including FMPs.

Before we move to target maturity fund benefits, let’s see what’s the defining feature of this category of debt funds. Target maturity funds have a specified maturity date and the expiry date of the bonds in its portfolio are aligned with this maturity date. Thus, the duration or time to maturity of the fund keeps reducing as time progresses. Also, all the bonds in the portfolio are held to maturity.

The first and most promising advantage of TMFs is their relative immunity to interest rate changes. Since the portfolio is held to maturity and has a reducing duration, it is less sensitive to interest rate changes along the way.
Secondly, TMFs have better return visibility than the rest of the debt funds since the portfolio of bonds is held to maturity. This keeps the return expectations in line with the fund’s Yield-to-Maturity (YTM) at any point in time. Thirdly, being passive in nature, target maturity bond funds deploy their funds based on the composition of the underlying bond index. Hence the portfolio of these funds tends to be heavily invested in government securities that make up most of the bond indices in India. At present target maturity funds have a mandate to invest in government bonds, PSU bonds, and State Development Loans. This lowers the default and credit risk of TMFs as compared to other debt funds.

Since target maturity funds are open-ended and available as index funds or ETFs, they offer greater liquidity especially in comparison to FMPs that are not frequently traded.  Also, they offer greater flexibility in terms of their maturity profile so that investors can choose a fund whose maturity date best suits their investment horizon.
Investors looking to stay invested for some time and having expectations of a stable return should consider adding Target Maturity debt index fund or target maturity ETFs to their core debt fund investment portfolio.