Recurring Deposits (RD), long the mainstay of investors looking for regular investments that pay a fixed return, have been side-lined by debt SIP’s (Systematic Investment Plans).
An SIP is a mutual fund that allows investors to invest small amounts at regular intervals (either weekly, monthly or quarterly). This amount is then invested in a chosen mutual fund, with a specific number of units transferred to the investor based on the fund’s current asset value.
Debt SIP’s have been catching the eye of investors thanks to their cheaper taxes. Falling returns from Recurring Deposit have also contributed to the growth of SIP’s as a more favorable option for frequent small investments. Debt fund investments are made into a combination of debt securities as well as fixed income securities such as corporate bonds, treasury bills etc. they also pay out a specific interest and have a fixed maturity.
Off late, wealth managers have been noticing a trend of investors directing their funds towards mutual funds. Figures also point to this trend, with monthly SIP investments standing at Rs. 1, 300 crore in April 2014 rising to almost Rs. 2, 800 crore a month now.
While the bulk of cash flow in mutual funds continue to be directed toward diversified equity funds and balanced funds, a sizable portion is also being diverted toward debt funds.
According to data, 10% of the total mutual fund investments are diverted towards debt funds and gold funds.
A number of investors who used to invest exclusively in Recurring Deposits have been exploring the market and the associated risks that come with investing in debt funds and mutual funds due to the higher returns and lower taxes that come along with them.
One of the key advantages of a debt fund is there is no tax deduction at source (TDS) on income gains from these investments. Tax on debt fund investments is also deferred until the investor redeems his units, resulting in the investor not having to pay tax every year on the investment, which is the case for other investment options like fixed deposits.
Debt funds generally carry two types of risk- interest rate risk and credit risk. Debt funds invest the money taken from investors in various bonds issued by companies, banks or governments. A credit risk would affect the capital return if the fund invested is a risky one, with the possibility of the fund being unable to get the principal or interest back.
An interest rate risk would be dependent on how a change in interest rate affects the bond price, with long duration bonds susceptible to higher risks. However with closed-end funds, the maturity period of the fund coincides with the investment time period, reducing or negating the risk.
This risk being neutralized is the reason many conservative investors have begun to invest in debt funds on a larger scale compared to the safer but lower returns Recurring Deposits. 
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