Comparing Liquid Funds versus Liquid Exchange-Traded Funds: Which Performs Superiorly?
In the world of short-term investments, two popular options are liquid funds and liquid Exchange-Traded Funds (ETFs). Both offer unique benefits, but understanding their differences can help investors make informed decisions.
Liquid funds, much like other debt schemes, come with options such as Growth and IDCW. They are known for their low volatility and risk due to investments in highly rated papers with short maturity. These funds aim to protect the principal while delivering steady returns, typically above savings accounts and fixed deposits, with returns varying according to market interest rates.
On the other hand, liquid ETFs like the Nifty 1D Rate Liquid ETFs track overnight money market rates and currently provide returns around 4% to 6% per annum. Examples include the Zerodha Nifty 1D Rate Liquid ETF, which has observed the best 1-year returns around 6%.
Key differences between the two include their returns, expense ratios, and liquidity. Liquid funds generally offer higher and more stable returns compared to liquid ETFs in India. They invest in short-term debt instruments and are designed to deliver market-linked returns that are usually higher than traditional bank products. In contrast, liquid ETFs track overnight rates, reflecting very short-term interest rates with returns currently in the range of approximately 3.9% to 6%.
Expense ratios of liquid ETFs are generally low but include trading costs, while liquid funds have expense ratios below 1% and may benefit from active management to enhance returns.
When it comes to liquidity, liquid funds provide instant or next-day redemption, while liquid ETFs settle trades usually on a T+1 basis but start earning returns immediately post settlement.
For active stock investors and traders, liquid ETFs can provide returns on idle funds. They trade on the stock exchange like stocks, with a trading price of Rs. 1,000. Liquid ETFs are an ideal option for those who have idle cash in their trading account. They can also be pledged to obtain margin money for trading in derivatives, with a 10% haircut allowing up to 90% of the value to be used as margin money.
However, if an individual does not have a Demat account or does not engage in trading, liquid funds are a better option due to lower transaction costs and convenience in selling fractional units. Liquid funds can be invested through a fund house's website, apps, or distributors and primarily invest in debt securities maturing within 91 days. They also allow investment of any amount and redemption of fractional units in the case of the Growth option.
In conclusion, if the objective is to maximize returns through short-term debt instruments with quick liquidity, liquid funds tend to offer higher returns than liquid ETFs in India at present. This conclusion is based on July 2021 data, where liquid funds generally outperform liquid ETFs that track overnight rates. It is essential to consider individual investment goals, risk tolerance, and account requirements when choosing between liquid funds and liquid ETFs.
- Investing in liquid funds can be beneficial for those seeking safety and steady returns, as they offer low volatility and risk due to investments in short-term debt instruments.
- Liquid ETFs, on the other hand, can be a good choice for active stock investors and traders who want returns on idle funds, as they trade on the stock exchange and can be pledged to obtain margin money for trading in derivatives.
- When comparing liquid funds and liquid ETFs for personal-finance purposes, it's important to consider factors like expenses, liquidity, and returns to make an informed decision that aligns with investment goals and risk tolerance.
