Debt instruments add safety features to your portfolio
Invest in a debt product based on duration of goals. Do not park short-term money in long duration products
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To build the investment part of your portfolio, you need to first create its ‘safe’ part. This is the core that earns less but is more stable than the risky part. And to create this ‘safe’ part, you need to invest in debt instruments. These can shield your portfolio from the volatilities of the equity market and have the capacity to reduce the overall risk of an investment portfolio. Debt instruments also help in de-risking a portfolio. What this means is that as your goals approach, you should move from equity to debt to protect your capital gains.
For most middle-class Indians, a fixed deposit (FD) is often the only financial investment other than an Employees’ Provident Fund (EPF) and physical assets such as gold and real estate. But over the past few years, diehard FD investors have begun to realise that there is life beyond this inflation and tax-unfriendly product. Tax-free bonds and debt funds now rank high on the safety seeking investor’s list.
“Even though PPF or EPF are good debt instruments, with tax benefits and tax-free returns, the choice of debt instruments should be dependent on the time horizon of your goal," said Pankaaj Maalde, a certified financial planner. For instance, short-term needs (up to five years) will need a low-risk product like an FD. However, you can also use short-term debt funds instead to get better returns and more flexibility. Balanced funds with a small allocation to equity, of less than 20%, are also useful for nearer-term goals.
Longer-term investment options include contributions made to EPF, Public Provident Fund (PPF) and tax-free bonds.
So, do not park your short-term money in long duration products. Typically, conservative investors make the mistake of dipping into their PPF and EPF and not linking these to their goals. These two products form the core of long-term investment money. Maximise your PF contribution and PPF investment and don’t dip into it during the accumulation years.
While debt instruments serve an important purpose in an investor’s portfolio, avoid over-allocating to them as returns after inflation and tax are less. Allocating enough for short-term goals and building the long-term core in low-risk products allows you to take more risks with the rest of your money at the next stage on the investment road.
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