What Are Debt ETFs?

Debt Exchange Traded Funds (ETFs) enable investors to get exposure to fixed-income securities. They incorporate the benefits of debt, stock, and mutual fund investments. Debt ETFs are listed on the cash market of the National Stock Exchange, similar to stocks of other companies. You can purchase and sell them at live market prices.

These ETFs have perceived considerable growth in India, with AUM (Assets Under Management) rising from ₹1,497 crores in March 2017 to ₹96,163 crores in March 2024.

How Debt ETFs offer fixed-income exposure?

Debt ETFs are investment vehicles that expose you to fixed-income securities like corporate and government bonds. By investing in these ETFs, you can earn returns linked to the performance of these securities. They are often called bond ETFs in India because of their strong focus on bonds.

Debt ETFs combine the flexibility of debt mutual funds and equity markets with the benefits of stable debt instruments. They can help you achieve significant returns. However, remember that their value can fluctuate based on changes in interest rates and bond prices.

Advantages of investment

Choosing these ETFs can bring the following benefits:

• Portfolio Diversification with Fixed-Income Instruments: Debt ETFs categorise funds into a collection of fixed-income instruments that effectively diversify your portfolio. You can include securities with different maturity periods to decrease risk and boost returns.
• Built-In Risk Mitigation: They help mitigate risk by allowing investors to diversify across different debt instruments within a single ETF.
• Lower Expense Ratio: They are passively managed and mimic the underlying index's performance. So, expense ratios are lower compared to actively managed funds. Hence, investors can increase returns without incurring significant expense.
• High Liquidity and Easy Trading: They are listed on stock exchanges, so the trading sessions are unrestricted. The high demand usually leads to increased liquidity. Making it convenient for investors to buy and sell whenever they want.
• Transparent Portfolio Structure: Investments are made in the same debt securities as the selected underlying index, guaranteeing transparency. Regularly assessing the ETF portfolios informs investors about their investment exposure, helping them make better decisions.
• Predictable and Stable Returns: Interest rates are predictable because investments are made in fixed-income securities. Hence, stable returns are assured.
• Managed by Professionals: Professional fund managers handle these ETFs and actively track and adjust the portfolio to match the underlying index.

Tips for trading Debt ETFs

Some strategies you can follow before trading these ETFs are discussed below.

1. Research before investing

Conduct thorough research first. This involves learning the key aspects of the underlying assets held by the ETF, assessing the credit quality of the bonds, evaluating the interest rate risk, and reviewing macroeconomic factors that could affect the performance of the debt market.

Suppose you want to invest in debt ETFs that mainly hold corporate bonds. In that case, you must evaluate the issuers’ financial health and creditworthiness. You should also assess potential risks linked to the specific sector or industry where the bonds are issued. Remember to assess your needs and budget before trading ETFs to achieve financial freedom.

2. Manage duration smartly

Duration indicates how sensitive a bond is to changes in interest rates. As a trader, you must implement duration management strategies to boost returns and reduce interest rate risk. One of the best strategies is to align your investment horizon with the duration of the Debt ETF.

If you have a short-term investment horizon, you can choose a debt ETF with a lower duration. Consequently, your investment doesn’t get affected by interest rate fluctuations. If your investment horizon is longer, you can choose debt funds with a higher duration to get higher returns.

3. Diversify portfolio

The diversification principle is useful when dealing with debt ETFs. You can invest in a wide range of these ETFs (belonging to various sectors and with various maturities). As a result, you can split your risk and boost your return. 

If your exposure is to high-yield debt ETFs, you can balance it with government bond ETFs to reduce the risk concerning lower-grade financial assets. Diversification ensures you invest wisely so that your exposure is not limited to just one investment instrument.

Make investment today

Debt ETFs are popular among investors aiming for exposure to fixed-income securities.  Their key characteristics include diversification and transparency. The future of these ETFs seems promising, considering the growing demand, innovation, regulatory developments, and advanced risk management tools. A solid diversification approach can make these ETFs a worthwhile addition to your portfolio.