Overnight Funds Vs Liquid Funds – After exit load in Liquid Funds

There is a huge discussion going on in choosing the Overnight Funds Vs Liquid Funds especially after SEBI introduced the graded exit load in Liquid Funds.

If you don’t know what is graded exit load, then refer my last post “Graded Exit Load in Liquid Funds Effective from 21st October 2019“.

Let us first understand what are Overnight Funds and what are Liquid Funds as per SEBI Recategorization rules.

What is the meaning Overnight Fund?

Overnight Fund is a fund that mainly invests in overnight securities maturity of ONE DAY. This means the fund manager will buy and sell securities on a daily basis. It comes under the debt fund category for taxation purposes.

Because of this short term nature of securities, the risk of interest rate and the credit risk is almost zero. However, at the same time, these overnight funds will manage the default risk the agency that organizes the transaction get collateral (security) from the bond issuer. So that default risk is also taken care of.

Because of all these safety measures, Overnight Funds nowadays are completely RISK-FREE instruments to park your Liquid Cash.

What is the meaning of Liquid Fund?

Liquid Funds also form the part of debt funds. However, Liquid Funds invest in debt and money market securities with maturity of up to 91 days.

SEBI did not define the credit rating papers the fund has to hold and SEBI not defined how much risk a fund manager can take. Hence, sometimes, to generate alpha compare to peers or benchmark, fund managers may invest in junk or low rated bonds and securities. This may pose a risk to Liquid Fund investors.

Many of us feel that Liquid Funds are safe. But the reality is that your SAFETY depends on the underlying bonds and securities the fund manager is holding. Take an example of the Tauras Liquid Fund. It fell around 7% in a single day due to the credit rating downgrade of Ballarpur Industries Limited (BILT) in 2017.

If you are unaware of this story, then refer my last post “Is Liquid Fund Safe and alternative to Savings Account?“.

Overnight Funds Vs Liquid Funds – After Graded Exit Load in Liquid Funds

Now you might have understood the difference between Overnight Funds Vs Liquid Funds.

There is a huge discussion going on that many investors switch from Liquid Funds to Overnight Funds and Liquid Funds may lose AUM.

Yes, it is to a certain extent right. Before the launch of overnight funds, many Corporates used to park their money in Liquid Funds mainly because of two reasons-1) Safety and 2) No Exit Load.

Because of exit load imposition, such corporates may move to Overnight Funds. Because for them parking in Liquid Funds is for few days but not for a few months or years (in many cases).

However, in the case of retail investors, we used to park our idle money, money that is required for short term and even debt part of long term goals.

Let me bring in certain points:-

# Identify your need-

If you need the cash within a few days (especially less than 7 days), then use Overnight Funds ONLY. As it is your emergency parking, your priority should be how fastly you can withdraw than bothering too much on return part.

But crying just because of the exit load my returns will reduce is a wrong idea. If you need money within a few days then park in the overnight fund and be satisfied with this. Don’t cry for returns post-exit load scenario.

# If your concentration is on returns-

However, if your concentration is on return, then use Liquid Funds and expect the returns of Liquid Funds.

Many so-called experts assuming 5% to 6% returns from Overnight Funds. If you are also one among them, then please stay away from such high expectations. Overnight Funds may give you around savings account interest rates. Expecting 5% tp 6% from Overnight Funds and showcasing which is BEST or WORST post the exit load to liquid fund is a worst comparison.

Many of these overnight funds started few months back. Even they have not completed 1 year too. But these experts are counting 5% to 6% returns from these funds. The reason is as below.

You notice that the returns which are showing for a year are launched long back with a different version. There were no overnight funds before SEBI Recategorization.

Take for example the UTI Overnight Fund. It was earlier UTI G-Sec Short Term Plan. This fund used to invest in Government Securities maturing around 2-3 years. It changed its structure in mid of 2018 to overnight fund. However, valueresearch performance tab not shows this difference. Rather it shows historical returns as if the fund is Overnight Funds since it’s inception from 2013. Funny but a reality we have to face with these star rating websites.

The new overnight funds returns for 3 months or 1 month are less than 3%. Hence, never expect 5% to 6% returns from Overnight Funds. Instead, expect around your savings bank account interest rate.

# Don’t concentrate on who moves in and who moves out

Corporates may have a different approach when they parking their money into Liquid Fund or Overnight Funds. But we as individual investors have a different approach when we invest in Overnight or Liquid Funds.

Hence, don’t cry if corporates move from Liquid Fund to Overnight Funds. Their need is different. They just park their idle cash for few days and expect certain returns which is not possible if they keep the same in their current account.

However, we individual can easily manage liquidity by parking a certain portion either in overnight funds or savings accounts. Rest money we can park it in Liquid Funds.ver

Conclusion:-Don’t worry about exit load in Liquid Funds. It is actually a move to protect a sudden fall in NAV and protect from sudden liquidity crunch during bad debt news. Hence, consider this as a protection layer for your Liquid Fund Investment.

Move to Overnight Funds if you have such a sure need that money is required within 7 days. I think in many cases, it is wise to park our idle money which we need within 7 days for our ongoing expenses. However, if you have huge cash which need after few days (within 7 days), then use Overnight Funds. Otherwise, park the same in Liquid Fund (after analyzing the underlying bonds and securities of the fund).