In today’s world, there are many ways in which you can invest your money. You can actually be confused of the best investment option for you. If you are having some extra cash right now, it is possible you wondering whether to spend the money to buy yourself something nice or to deploy the extra cash into an investment. It is not far-fetched you might ask, is investing in liquid funds a wise idea?
This is something I have been struggling with over the last couple of days. So, I have done some research on whether it is a good idea to consider liquid funds.
It is this information that I will share with you here today.
Investing is the act of setting aside money that will, itself, earn a profit and grow. Investing is not the same thing as is pure savings, where the money is set aside for future use.
When you invest, you expect the money to give you some returns or increase the original amount. Investing provides the peace of mind that you will have funds available to endure a future financial milestone.
Retirement, business projects, and paying for the college education of a child are examples of such financial milestones.
One instrument you can use when making an investment is the liquid funds. However, you might be wondering; what is a liquid fund?
What is a Liquid Fund?
Liquid funds are debt funds or a type of a mutual fund that invest in instruments or securities such as certificates of deposit, treasury bills, commercial papers and other debt investments with a residual maturity of up to 91 days.
With this understanding, we can now go further to see how this works as well as benefits that make investing in liquid funds a very wise idea for you.
Is Investing in a Liquid Fund a Wise idea?
It is important to understand that investing in a liquid fund would be considered a wise idea if the positive benefits outweigh the negative consequences.
Here are the nine reasons and benefits that makes investing in liquid funds a wise idea;
- Liquid funds are easy to buy and sell
- Provides you with a diversification option
- Sharing of investment expenses.
- Economies of scale and operational efficiencies.
- You can invest in specialized market sectors
- Easy to access and track performance
- Simplified portfolio management.
- Access to professional money managers.
- Low trading costs for liquid funds
By understanding the benefits of a liquid fund, you will then be in a position to fully understand whether investing in liquid funds is a wise idea to you.
I have listed for you nine benefits below, but first let us look into how a liquid fund works.
How Liquid Funds work
The core objective of a liquid fund is providing capital protection and liquidity to you as an investor.
Therefore, the fund manager selects high-quality debt securities and invests according to the scheme’s mandate.
You might ask, does this make investing in liquid funds a wise idea?
I would argue it does, in some way.
Unlike other debt funds where the net asset value (NAV) is calculated only for business days, net asset value for liquid funds is calculated for 365 days.
Therefore, net asset value of liquid fund does not fluctuate much as other funds.
Units are allotted as per previous day’s NAV if application is received before 2 p.m.
Withdrawal requests are processed in 24 hrs.
Further, the liquid fund’s manager ensures that the average maturity of the portfolio is not more than 91 days. Shorter maturity makes the fund less prone to change in interest rates.
By matching the maturity of individual securities with the maturity of the portfolio, the fund manager tries to deliver better returns.
Liquid funds are known to offer better returns than a regular savings account.
9 Reasons Why Investing in Liquid Funds is a Wise Idea
Investment decisions require that you research and get all the information you need before taking action.
In this regard, I would argue that the following nine reasons make investing in liquid funds a wise idea for you to consider;
Liquid Funds are Easy to Buy and Sell
Mutual funds, where liquid funds belong, are among the most popular investment vehicles in the United States and across the world
Nearly 100 million Americans own mutual funds, fuelling an industry that is more than $50 trillion, according to the Investment Company Institute.
Liquid mutual funds win the investment popularity crown for good reason. They are easy to buy and sell, widely available and designed to help investors reach their long-term financial goals.
But this is only the beginning of the benefits mutual funds provide. Here are eight benefits of mutual funds that prove this bandwagon may be a good one on which to jump.
Provides You with a Diversification Option
Diversification is a primary aspiration of many investors, but it can also be a major challenge, especially for smaller accounts.
The beauty of liquid funds is every dollar you invest is diversified. Investing in liquid funds is a wise idea because your money is pooled with the money of all other investors in this type of mutual fund.
This will allow your fund manager to buy different investments. In that regard, every dollar you invest is allocated across all of these investments
Sharing of Investment Expenses.
I do not know about you, but if you have ever shared a roommate, then you know the power of shared expenses. I did back at the university. An expense shared is an expense halved.
This works for liquid funds too.
By pooling your investment assets with others, you will be able to cut your investing expenses. The expenses are shared proportionately based on the amount you have invested.
This makes investing in liquid funds a wise idea.
When buying individual stocks, you’re responsible for all transaction costs on your own. These costs can add up, especially if you want to buy shares in small quantities or dollar-cost average.
In a liquid fund, it is up to the fund manager to juggle these financial hurdles, which are easier to manage in a fund with the resources to buy in bulk.
Economies of Scale and Operational Efficiencies.
Bulk shopping is yet another advantage of pooling investors’ funds.
Thanks to their size, liquid funds are able to take advantage of economies of scale and operational efficiencies in trading.
This makes liquid funds better suited to transact in local international markets, trade assets with unique complexities such as bank loans and enter counter-party agreements.
As an individual investor, you will be unable to deal with such complexities. Therefore, investing in liquid funds is a wise idea as you will have economies of scale provided by the fund.
You can Invest in Specialized Market Sectors
Liquid funds provide you with a great opportunity to be exposed and invest in specialized sectors of the local or global economy.
The fund managers have a knack for dealing with complex investing strategies. This would prove very tough for you as an individual.
Investing in liquid funds is a wise idea to follow and capitalize on when it comes to investments in certain markets or geographical regions.
It works very well considering the earlier point on diversification as mentioned above
Easy to Access and Track Performance
Few investments, if any, are easier to buy than a liquid mutual fund. While most separated managed accounts (SMAs) require an intermediary to access, you can buy liquid funds yourself in a self-directed brokerage account.
You can be able to buy or invest in a liquid fund. This is because the funds have low investment requirements.
As an investor, whether small or big, you can be able to use liquid funds. This will help you to diversify across several fund managers.
Given the liquid funds are regulated, you will be able to reduce your operational and investment risk.
Likewise, since mutual fund information is widely accessible, investments in mutual funds are easier to both source and monitor.
Simplified Portfolio Management.
One other area that makes investing in liquid funds a wise idea is in their ease of portfolio management.
You can be able to easily change your asset allocation, make new investments or sell a position in a single transaction in a liquid mutual fund.
Access to Professional Money Managers.
While the debate over the merits of exchange traded funds (ETFs) versus liquid mutual funds rages, one area where liquid funds come out ahead is in the variety of fund management styles available.
Exchange traded funds seek to provide passive exposure to an asset class or geography.
In contrast, liquid funds offer investors access to active strategies and the benefits of professional money management.
This means you have a professional money manager that is making decisions around security selection for the your liquid fund.
So rather than blindly following a benchmark index as a liquid fund investor, you can get the expertise of a professional for far less than the cost of hiring an individual financial advisor.
Low Trading Costs for Liquid Funds
Liquid funds trading costs are also lower than those for exchange traded funds.
As discussed above, liquid funds always trade at net asset value (NAV), or the market value of its assets minus liabilities divided by the number of shares owned by investors.
This has one great benefit.
It means that liquid funds are not subject to a bid and ask spread. With only one price per day, liquid fund traders all buy and sell at the same price.
And since that price is net asset value, they never have to worry about if they are paying a premium or discount for the fund.
In conclusion, it is important that you make informed decisions when it comes to your investments. Your objectives will drive you to the best investment option.
However, based on your goals, investing in liquid funds can be a very wise idea.
As discussed above, you can get the following benefits of investing in liquid funds;
- Liquid Funds are Easy to Buy and Sell
- Provides You with a Diversification Option
- Sharing of Investment Expenses.
- Economies of scale and operational efficiencies.
- You can Invest in Specialized Market Sectors
- Easy to Access and Track Performance
- Simplified Portfolio Management.
- Access to Professional Money Managers.
- Low Trading Costs for Liquid Funds
The information I have provided you here should help you to answer the question of whether investing in liquid funds is a wise idea.
Frequently Asked Questions
Can I lose money in liquid funds?
While every investment carries some inherent risks, liquid funds are one of the safest mutual funds. This is because liquid funds invest in or lend to quality companies for a short period of time and thus reducing the risk exposure.
The risk of losing your money is almost zero if you stay invested for the whole 91 days.
What is the advantage of a liquid fund?
These debt securities comprise money market instruments such as treasury bills, commercial paper, certificates of deposits with maturity period up to 91 days. The fundamental advantage of investing in liquid funds is the high liquidity they offer.
Is there any risk in liquid funds?
Although liquid funds are not entirely risk-free, however, they are low risk-low returns instruments.
As they invest predominantly in debt instruments, they are subject to interest rate risk and credit risk.
In this way, the fund manager reduces credit risk by holding a well-diversified portfolio of securities
How do I choose a good liquid fund?
You should choose liquid funds that are large. These can handle redemption pressures better than liquid funds with smaller.
Disclaimer: Seek advice from your investment and financial advisors before making your decision on the liquid fund to put your money into. This resource is for informational purposes only.