Are liquid mutual funds safe

In the last 3 months we have seen large liquid mutual fund redemptions across the country. As per AMFI data, redemptions exceed inflows in months of December 2019 and February 2020. In January 2020, redemptions almost matched inflow. Some amount of regular redemptions in liquid funds is natural because many companies use these to park funds needed for their working capital, but the high levels of redemptions indicate some panic selling.

You may like to read: Are debt mutual funds safe: good funds to invest now

Are liquid funds safe?

Over the last 18 months we have seen a number of downgrades and defaults by debt and money market papers issued by some NBFCs, banks and other companies. The downgrades have impacted NAVs of some liquid funds which invested in those papers. This has created a perception among a small section of investors that liquid funds are not safe. False rumours about an impending run on liquid mutual funds may have caused panic among even those investors who were not impacted by these downgrades.

Why liquid mutual funds still offer high degree of safety?

We want to assure our customers that there is no need to get alarmed about your liquid fund investments. Though liquid funds are subject to market risks, investors should understand that there is very low risk and high degree of capital safety in these funds for the following reasons:-

• Liquid funds invest in money market securities which have maturities of less than 91 days. Well managed liquid funds invest predominantly in highly rated (CRISIL A1 / A2) papers.
• In September 2019, SEBI tightened norms for liquid funds to make them safer for investors. Liquid funds must hold 20% of the assets in Government securities, Treasury bills and cash – no credit risk.
• SEBI also has issuer concentration and sector concentration norms, which diversifies single issuer risk making.
• Even if a Commercial Paper gets downgraded, it does not necessarily mean it will not be able to make interest payment or repay the principal amount. So while the NAV may get written down by the downgrade, you may be able to recover some of the loss by remaining invested.
• Most liquid mutual funds have been able to give 6%+ returns in the last 1 year (as on 28^th March, 2020) despite downgrades. Please see liquid fund trailing returns. This is higher than savings bank interest rate.
• Even in the last 3 months, when the economic environment has not been favourable, most liquid funds have been able to give 1.3% or higher returns i.e. more than 5% annualized returns.

What should you do?

If you have invested in liquid funds, you should remain invested till you need the money for their intended use. If you have idle cash in your bank which you want to park for the short term (few weeks to 1 year), then you should invest in liquid funds. In the current environment of economic uncertainty, liquid funds are one of the safest short term investment options. However, you should check the credit quality profile of the liquid fund before investing. Your Eastern Financier’s financial advisor can help you select the highest quality liquid funds. If you have any question, concern or need further guidance on liquid funds, please contact with your financial advisor or emailus at service@easternfin.com