How To Select A Liquid Mutual Fund For My Portfolio

Written by Vidya Kumar

December 6, 2018

Picture

Executive Summary: Liquid funds are considered to be a good investment option due low risk, high liquidity and optimum returns. You should consider factors such as credit quality, investment portfolio, fund performance, expenses, your financial goals and average holding period to decide where to invest.

Select A Liquid MF

Liquid Mutual funds invest in short-term money market instruments and other debt securities. They key features of liquid funds are –

  • Very liquid as the underlying securities have short maturity periods and redemption is possible within 2 days.
  • Less volatile as they are not much affected by market movements. 
  • Less risky as compared to Equity MFs as investment is mostly in government securities.
  • No lock in period and no entry and exit loads.

Liquid funds may not give returns as high as equity funds but are a good option to park idle cash or to meet short term financial goals. Here are some parameters that you should focus to zero in on which liquid fund to invest in –
1) Average Credit Quality
Check the type of securities that the fund is invested in. Its better if the fund has most of its investments in instruments with credit rating AA and above and some holding in the form of cash holdings. 
2)  Investment Portfolio 
Liquid funds invest in treasury bills, certificates of deposits (CDs), commercial papers (CPs) etc. If a scheme is overweight in commercial papers, you need to evaluate the risks. If the extent of CP investment is more and in lesser known companies, it might be a good idea to avoid the fund. 
If the investments are across many securities, the risk is less. For example, when the IL&FS bonds were downgraded, mutual funds that held those bonds but had a a diverse investment portfolio were not affected as much as those schemes that had a high exposure to these bonds.
3) Fund Performance
Check the fund performance. Here is a list of few liquid funds and the returns they have generated.


Name
​1 Month Return
3 Year Return
3 Year Return
​Axis Liquid Fund 
0.63%
7.40%
7.27%
Reliance Liquid Fund 
0.64%
7.36%
7.25%
​Principal Cash Management Fund 
0.55%
-1.82%
4.14%

As on December 5, 2018
It is better to go for funds that have good returns for the longer duration as it indicates consistency.
4) Average Holding Period
Liquid funds can invest in securities that have maturity periods ranging from 1 day to 90 days. If the holding period is on the lower side, it means percentage of cash is more. The more holdings in cash, the lower the returns. So select those funds that have the average holding period on the higher side.
5) Expense Ratio
Though SEBI has a cap on the expense ratio which is the annual management fee, it is important to check the value for the scheme you want to invest in as the expenses are paid from the returns which means the higher the expenses the lower the returns. Here is an indication of the expense ratio of some liquid mutual funds.
Name
Expense Ratio (%)
Axis Liquid Fund
0.29
Reliance Liquid Fund
0.23
​Principal Cash Management Fund
0.17

6) Your Financial Goals
Liquid funds are better than cash or bank accounts to create an emergency fund. If you have short-term goals like buying a car or funding an exotic trip, you can invest in liquid funds. You will generate better returns and you will not have easy access to the amount to spend it irrationally.

Investing in liquid funds is not risk-free. Use the above mentioned criteria to select funds that have the potential to give good returns. 

0 Comments

INSIGHTS + MONEY STORIES

INSIGHTS + MONEY STORIES

Our Newsletter features money stories and useful insights on personal finance that can help you make informed decisions and stay up-to-date with the latest trends in personal finance. Sign up today!!!

You have Successfully Subscribed!