If we consider the classification of debt funds, then you will realize that it is quite simpler as compared to equity funds. There are two main characteristics of debt fund investments – credit rating as well as maturity. It is quite simple to learn about maturity. The date of maturity of a bond is the date on which the bond’s principal value has to be returned to the investor.
If a change takes place in the rate of interest, then it can make a specific bond more or less valuable. With a decline in the rate of interest, older bonds which had a higher interest rate, tend to get more valuable. On the contrary, with the rise in the rate of interest, older bonds tend to valueless.
There is a direct connection between the alteration in the value of a bond and the time left for the maturity of the bond. It is sensible. We will give you an example. With a fall in the rates of interest, the older bonds get more valuable. But the bond which has ten years left for maturity will be more valuable than the one which has just one year left for maturity. The one with ten years' time period will go on paying a higher rate of interest for such a long period.
Then the most significant element is residual maturity and not the total lifetime of the bond. The meaning of residual maturity is the time left for the date of redemption of the bond. This means a freshly issued two-year bond will have the same residential maturity as a twenty-year bond issued eighteen years ago. If there is a similarity in these two bonds, then an alteration in the rate of interest will affect their value equally.
Residual maturity is responsible for determining the return and risk level of a bond. When there is very little time left for the maturity of a bond, then you can consider it to be less risky less profitable as well. Bonds with a more extended maturity period are just the same. This is one of the best ways to categorize bonds.
Following is the detailed classification of debt funds, depending upon their maturity:
There are some other types of debt funds, too, with different types of security investments: