What are the differences between Debt and Equity Funds?

Mutual funds are of various nature depending on the needs and requirements of investors. However, the most common factor that separates them is their risk appetite. The riskier firms offer better returns on investment while the less risky ones provide fewer returns.

There are predominantly two types of funds: Debt Funds and Equity Funds.

Debt Funds

Debt funds usually invest the cumulative investment of the investors in money market instruments. Some examples of money market instruments are Treasury bills, G-Secs, Non-convertible debentures, and Commercial Papers, etc. Debt funds have much lesser risk than equity funds but their return is low too.

Equity Funds

These funds invest in equity, including shares and bonds. There are differences in terms of investments depending on the market capitalization of the invested companies. Large capitalization funds invest in the wealthiest 100 companies, mid-cap funds invest in 100th to 250th top companies, and small-cap invest in 251st and upwards.

Note − Equity funds invest money in share markets depending on their market cap.

Differences between Equity and Debt Funds

• Instruments − The debt funds usually invest in money market instruments, such as CDs, G-Secs, and government bonds while equity investments are made in equities that are traded in the stock market.

• Return on Investments (RoI) − The RoI in debt funds is lower than equity funds as equity funds invest in higher-risk assets.

• Expenditure − Compared to equity, the debt funds have low to moderate expenditure.

• Risks − The risks associated with debt fund is low because they deal in non-risky instruments. The return, therefore, is lower too.

• Time of deal − In the case of equity, the times of buying and selling are very important as the stock market is very dynamic in nature.For debt funds, timing is not important.

• Suitability − Debt funds return lower to higher returns for many years and they can be compared to fixed deposits (FD) while equity returns are instantaneous and occur within a day. Equity returns can be treated as a long-term goal.

• Tax − Long-term debts that are meant for 36 months or more attract a tax of 20% while the ones that are for less than 36 months attract income tax as per law.

• Tax savings − Debt funds do not offer tax savings. The ELSS equity fund can offer lower taxes.

Note − Time of deal is very important for equity funds because they deal in share markets.