With bank fixed deposits offering unattractive returns, fixed income investors have been scouting for higher-return products. While options such as NBFC deposits and certain categories of debt funds may offer a better deal on returns, this may come with additional risk.

Target maturity funds (TMFs) — debt funds with a defined maturity that invest passively in the bonds constituting a particular index — offer an alternative to investors with moderate risk appetite. TMFs offer the twin benefits of return predictability and a higher level of safety.

ICICI Prudential MF’s PSU Bond plus SDL 40:60 Index Fund – Sep 2027 and Aditya Birla Sun Life (ABSL) MF’s Nifty SDL Plus PSU Bond Sep 2026 60:40 Index Fund are the latest additions to the TMF stable.

These funds aim to tap into the relatively higher yields on 5-6-year maturity bonds. Other mutual fund AMCs, such as Edelweiss MF, Nippon India MF and IDFC MF too offer target maturity funds.

The ICICI Pru Fund will invest in the constituents (bonds) of the Nifty PSU Bond Plus SDL Bond Sep 2027 40:60 Index and replicate its returns.

That is, the fund will invest in a mix of AAA-rated PSU bonds and state development loans in a 40:60 ratio.

Likewise, the ABSL fund will invest in the Nifty SDL Plus PSU Bond Sep 2026 60:40 Index constituents.

These new fund offers close on September 27 ( ICICI Pru fund) and September 23 ( ABSL fund).

How it works

TMFs invest in AAA-rated corporate bonds, State government bonds (SDLs) or Central government bonds (g-secs) or in a mix of these and hold them until maturity, earning interest on them.

The interest received is re-invested in similar bonds that too are held till maturity. The fund may, however, sell its bond holdings to meet redemptions, if needed. On maturity, investors are returned their initial investment plus return.

If you remain invested in a TMF until maturity, whether a newly launched or an existing one, your return will equal the yield-to-maturity or YTM indicated at the time of investing minus the expense ratio.

If you redeem prematurely, then your return can be different from that indicated. With interest rates expected to gradually inch upwards, there is a possibility of capital loss (fall in the price of existing bonds in the fund portfolio) impacting your returns on premature exit.

Latest offerings

The ABSL Nifty SDL Plus PSU Bond Sep 2026 60:40 Index Fund and the ICICI Pru PSU Bond plus SDL 40:60 Index Fund – Sep 2027 currently offer YTMs of 5.91 per cent and 6.25 per cent (approx.) respectively.

The two funds will mature in September of 2026 and 2027. The ICICI Pru fund has an expense ratio of 0.15 per cent (direct plan) and 0.35 per cent (regular plan). The ABSL fund expense ratios could likely be similar.

Similar to other TMFs, the two new funds too offer a high degree of safety as they will invest only in the sovereign guarantee-backed SDLs and AAA-rated bonds of public sector entities. With caps on the weights assigned to each of the bond issuers in the index, the concentration risk too is kept under check.

Should you invest?

Investors who want some degree of return predictability, and have an investment horizon matching the maturity (5 and 6 years) of the two funds, can consider parking some money here.

The returns of 5.76 per cent and 6.10 per cent (assuming an expense ratio of 0.15 per cent under direct plan) are attractive compared to the prevailing 5-year public sector bank fixed deposit rates of 4.9 – 5.4 per cent. This is especially so for those in the higher tax brackets (say, 20 per cent and higher) and with an investment horizon of there years or longer.

Interest income from bank and post office deposits is taxed at your income tax slab rate. On the other hand, gain on sale of debt funds after being held for three years or longer (long-term gain) is taxed at 20 per cent with indexation benefit.

Two other TMFs with a similar portfolio profile are Nippon India ETF Nifty CPSE Bond Plus SDL 2024 and Edelweiss Nifty PSU Bond Plus SDL Index Fund 2026, maturing in 2024 and 2026 and offering YTMs (net of expense ratio) of 4.91 per cent as on August 31 and 5.74 per cent as on September 15, respectively.

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