Exploring non equity mutual funds: What they are and how they differ

When one hears the term ‘mutual funds’, most of us think in terms of equity-based funds that are invested in stocks for growth opportunities. Yet, not all mutual funds focus on equities. Non-equity mutual funds invest capital in bonds, treasury bills, or hybrid products that have a focus mainly on debt or money market holdings.

If you desire income stability or a balanced approach to investing, understanding what non equity mutual funds can be vital. Below, we clarify non equity mutual funds meaning, illustrate examples, and examine the diverse categories—along with tax implications and suitable investor profiles.

• Table of contents

• Defining the concept
• Example of Non Equity Mutual Funds might include:
• Workings of non equity mutual funds
• Range of options
• Who should invest in non-equity mutual funds?
• Tax considerations

Defining the concept

Non equity mutual funds focus on something other than pure stocks. Frequently called debt or fixed-income funds, such products invest in short or long term bonds, treasury bills, or other debt obligations. Focusing on interest income and preserving capital, non-equity funds tend to be less volatile than equity-based alternatives. Although returns might be moderate, the comparative steadiness and stability appeals to conservative or medium-term investors, supporting their inclusion for reducing overall portfolio fluctuations.

Example of Non Equity Mutual Funds might include:

• Liquid funds: These invest in short-term money market instruments—like certificates of deposit or commercial paper—maturing usually within 91 days, offering relatively stable and highly liquid holdings.
• Short/medium term debt funds: Focusing on bonds with shorter maturity periods (e.g., 1–3 years or 3–4 years), these funds target steady interest payments and reasonable returns, with minimal rate risk.
• Gilt funds: Concentrate on government bonds (gilt) with negligible default risk. These returns are dependent on the interest rate cycle, but credit risk is zero because they have sovereign backing.
• Hybrid funds: If the equity portion is below 65%, such schemes may be considered non-equity for tax purposes, combining equity with debt.

Also Read: Mutual fund vs direct equity: Understanding the difference

Workings of non equity mutual funds

How do non-equity mutual funds work? Managers actively pick bonds or money market instruments suited to the maturity profile of the fund, the credit rating target, and yield target. Regular interest (coupons) on these bonds provides a boost to returns, even though prices may still swing depending on interest rate changes.

Periodically over time, the manager rebalances to ensure the fund is within its mandated duration band. Investors may invest in such funds, getting units that represent their proportion in the collective fund of debt securities. Proceeds on redemption (and gains, if any) will depend on the performance of these bonds, considering interest income and any potential capital gains arising from change in price.

Range of options

Types of non-equity mutual funds typically include:

• Liquid funds / Ultra short term funds: Investments in very short maturity instruments, prioritising capital preservation and liquidity.
• Short / Medium / Long duration funds: Depending on average maturity spans, these have varying degrees of rate sensitivity. The longer the duration, the more susceptible to rate changes but potentially higher yields.
• Credit risk funds: They concentrate on lower-rated corporate bonds, aiming for elevated returns yet facing bigger default risk.
• Gilt funds: Specialised in government securities, eliminating credit risk but still subject to rate fluctuations.
• Hybrid debt oriented funds: Mostly non-equity, combining smaller equity components or convertible securities to have balanced risk.

Who should invest in non-equity mutual funds?

• Conservative investors: Preferring relatively stable returns over equity volatility.
• Short- to mid-term goals: If you plan to use funds within 1–5 years (like for a car purchase or bridging upcoming expenses), debt mutual funds can fit.
• Portfolio diversification: Even an equity-centric portfolio might incorporate debt-oriented schemes to temper fluctuations.
• Retirees or income-seekers: Those seeking predictable interest-based distributions might find comfort in non-equity categories.

Tax considerations

Taxation on non-equity mutual funds can be more complex than equity. Usually:

• Short-term gains: Gains realized within a short timeframe (e.g., under 3 years) and taxed per your income slab.
• Long-term gains: Previously, after 3 years, you could apply indexation at 20%. However, new regulations have removed or reclassified these benefits for fresh investments.
• Check latest tax laws: Because rules shift frequently, confirm the latest guidelines regarding non-equity mutual fund taxation before investing.

Also Read: Passive mutual funds: Meaning, types and how they work

Conclusion

For investors seeking stability and moderate returns over a short to mid-term horizon, non-equity mutual funds present a suitable option. They are centered on debt securities or limited equity exposures, mitigating the volatility that full-fledged equity funds experience. By understanding the non-equity mutual funds meaning—how their underlying bonds or money market placements seek stable coupon yields—you can put into perspective whether a short, medium, or longer-duration strategy is appropriate for your objectives. Even though evolving tax regulations might alter the attractiveness of some categories, the core premise of stability remains intact. Notably, adding these funds can also stabilise your overall mutual fund portfolio, ensuring diversification across equity and fixed-income exposures. The result: a balanced risk-return dynamic without overly exposing your capital to stock market turbulence.

FAQs:

What are non-equity mutual funds, and how do they work?

They are debt or low equity exposure mutual funds with limited price fluctuation, getting returns from coupon payments and minor price gains on bonds. Investment managers choose fixed-income securities for stable returns and minimal volatility.

What are the different types of non-equity mutual funds available?

Common types are liquid funds, short/medium/long duration debt funds, gilt funds, credit risk funds, and hybrid debt-oriented schemes. All serve different durations and risk profiles.

How are non-equity mutual funds taxed in India?

Under the latest taxation rules, capital gains from all new debt-oriented fund investments are treated as short term––regardless of the holding period––and taxed at the investor’s applicable slab rate.

Who should invest in non-equity mutual funds?

Conservative or short- to medium-horizon investors, or anyone seeking to balance stock risk in their portfolio. Retirees, also, might prefer them for regular income and less volatility than pure equity funds.

What are the risks associated with investing in non-equity mutual funds?

Although generally less erratic than equity funds, these expose investors to interest rate risk (bond prices move with rate movement) and, in certain cases, credit risk if the fund holds lower-rated bonds. Careful examination of the fund's credit quality and duration strategy can help to avoid such risks.