What Are Floater Funds

26 May, 2025

Synopsis:

• Floater funds invest in bonds with floating interest rates, which means returns can increase when market interest rates go up. They are useful when you expect interest rates to rise or remain unstable

• These funds are managed by experts and offer better protection against rate changes compared to fixed-rate options. They are suitable for investors looking for safety with the potential for better returns

• While floater funds are flexible and transparent, they still carry some risk, such as fluctuating returns or credit issues

Imagine you are planning to buy a car. But instead of paying the full amount upfront, you choose an EMI plan. Now, suppose the interest rate on your EMI is not fixed. It changes with time. And you assumed that the interest rate will decline in the upcoming months. If interest rates go up, your EMI gets heavier. If they drop, your burden lightens. That’s how a floater fund behaves in your investment journey.

Understanding Floater Funds

Floater funds are debt-oriented mutual funds that invest at least 65% of their assets in floating-rate instruments as per the SEBI circular. These instruments are debt securities whose interest income varies based on a market benchmark like the RBI repo rate. Unlike fixed-rate bonds, the income earned by floater funds adjusts in sync with market interest rates.

These funds are actively managed and offer flexibility in changing rate environments. When interest rates rise, the returns from floating rate instruments also increase, helping investors benefit from higher yields. This makes floater funds a strategic option during uncertain or rising interest rate cycles.

Types of Floater Funds

There are mainly two types of floater funds, which are described below:

1. Short-Term Floater Funds

These typically invest in government securities or money market instruments with shorter maturities, usually less than one year. They are suitable for conservative investors looking for stability and moderate returns.

2. Long-Term Floater Funds

These invest in longer-duration corporate bonds, debentures, and government securities. They aim for better returns over time but may show more price fluctuation than short-term ones.

How Do Floater Funds Work?

The core of a floater fund lies in its investments. Most of its portfolio includes floating-rate debt instruments. These could be corporate bonds, treasury bills, or government securities with variable interest payouts. The rest of the fund may also include fixed-rate debt instruments, but only to the extent allowed under regulatory limits.

Interest in these floating instruments is periodically reset based on prevailing market conditions. This helps the fund adjust to rate hikes, thereby reducing the risk of falling returns during such phases. Fund managers also have the flexibility to switch between instruments to maximise performance. You can also opt for the open-ended floater funds, which allow you to enter and exit anytime based on the fund’s Net Asset Value (NAV).

Key Benefits of Floater Funds

There are several benefits of floater funds, some of them are as follows:

1. Interest Rate Protection:

These funds are designed to perform well when rates rise, helping investors cushion the impact of inflation or rate volatility.

2. Professional Management:

Managed by expert fund managers, the portfolio is actively adjusted to take advantage of changing rate environments.

3. Liquidity and Transparency:

These funds offer daily liquidity and are regulated by SEBI, ensuring transparency and investors’ safety.

When Should You Consider Floater Funds?

Floater funds are best suited when you expect interest rates to go up or stay volatile. Unlike long-term debt funds, floater funds can adapt to market fluctuations quickly. This makes them a good choice during monetary policy tightening or when inflation is expected to push interest rates higher.

Risks Associated with Floater Funds

• Interest Rate Risk: Returns depend on interest rate movements. If rates fall, returns may be lower than expected.
  
  

• Credit Risk: Some floater funds may include lower-rated debt funds, which increases the chance of issuer default.
  
  

• Market Volatility Risk: While they offer lower risk than equity, market fluctuations still impact returns.
  
  

• Return Uncertainty: Since interest rates change over time, predicting exact returns is difficult, making it less suitable for fixed-income planning.

Floater funds can be a smart choice when interest rates are rising or changing often. They mainly invest in debt instruments, but their returns adjust based on market interest rates. This makes them more flexible than regular debt funds. If used correctly, they can add both stability and better earning potential to your investment portfolio. It will be suitable for conservative or slightly aggressive investors.

Explore expertly curated floater fund options on the HDFC Bank SmartWealth App. Stay ahead in changing interest rate scenarios with smart investments tailored to your financial objectives. Download the App today.

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