Mutual fund unlocked: Credit opportunities fund

Investors usually spread investments across the asset classes to reduce risk. Debt funds are commonly used to cushion market volatility. Credit opportunity fund is a type of debt fund which although is not so popular among the investors is a good investment option.

Credit opportunities funds are funds which take credit risk for generating higher yields. For this, the fund manager of these funds usually adopts the accrual strategy. Accrual strategy means these funds invest in such securities which have lower credit ratings at the moment but are poised to improve in the upcoming period. The concept seems a bit similar to value investing. These funds generate returns from the coupon payments arising from their holdings or from the benefits from a compression in yield spreads.

On the liquidity front, these funds are more risky. As corporate bonds with a lower rating are low on liquidity in case of any downgrades or defaults, it will be difficult for the fund managers to exit from these securities.

On the taxation front, these funds are considered to be a bit tax efficient as dividends from these funds are exempt from tax, but the scheme is expected pay 28.84 per cent DDT (Dividend Distribution Tax). In the case of taxation of returns from these funds, returns earned within three years of investment are subject to short-term capital gains tax as per respective tax slabs. And post three years LTCG (Long term capital gain) tax will be 20 per cent for all investors.