How do changes in interest rates affect my return on debt funds?

A mutual fund is a professionally managed company that collects the money of many investors and invests it in securities such as stocks, bonds and short-term debts, equity or bond funds, and money market funds.

Mutual funds are a good investment for investors who want to diversify their portfolio. Instead of focusing everything on one company or sector, a mutual fund invests in different securities to try to minimize portfolio risk

The term is typically used in the United States, Canada, and India, while similar structures around the world include the SICAV in Europe and the open-type investment firm in the United Kingdom.

Debt funds invest in fixed-income securities such as corporate or government bonds and money market instruments. These securities are interest-bearing instruments that pay a fixed interest (coupon rate) to investors at regular intervals and pay the amount invested (principal) at maturity. The prices of these securities are directly affected by changes in interest rates. Bond prices and interest rates are inversely proportional

The coupon rate of a bond is fixed when the bond is first issued at a certain price (nominal value). If interest rates fall below the coupon rate, the bond seems more attractive because it has higher interest rates than those currently available on the market. Then, demand for such bonds increases, pushing their prices upward. If interest rates rise, these bonds seem unattractive and their prices fall due to lower demand

When interest rates rise, the prices of fixed income securities fall. This leads to a drop in the NAV of the fixed income funds that hold these securities in their portfolio. On the other hand, when interest rates fall, the prices of fixed-income securities rise, leading to an increase in the NAV of fixed-income funds. So, you get a positive return on your investment in fixed income funds when interest rates fall and vice versa.

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