Liquid funds vs Short-duration funds

"I am retired and rely on a portfolio designed for monthly SWP withdrawals, with annual rebalancing. Should I start an SWP from a liquid fund or a short-duration fund?" - Anonymous

Liquid funds, known for their stability and low-risk profile, stand out as a better option than short-duration debt funds for systematic withdrawal plans (SWP). With consistent positive returns and minimal fluctuations, they provide peace of mind, ensuring your money is protected from market volatility. Let's find out why:

Advantages of using a liquid fund for SWP

1. Preservation of capital: Liquid funds almost never go down in value, even over short periods like a week or a month. For instance:

• A typical liquid fund, such as Kotak Liquid Fund, shows consistently positive one-week (99.78 per cent of the time in the last decade) and one-month (100 per cent of the time in the last decade) rolling returns.
  
• On the other hand, a short-duration fund, such as Kotak Bond Short Term Fund, can experience brief dips in value, as seen in occasional negative one-week (15.8 per cent of the time in the last decade) or one-month (7% of the time in the last decade) rolling returns due to interest rate movements or credit events.

This stability ensures that the money earmarked for withdrawals is protected from market volatility, giving you peace of mind.

2. Liquidity for monthly withdrawals: Liquid funds provide same-day or next-day redemption with minimal exit loads, making them perfect for generating predictable monthly income. While short-duration funds are also liquid, their slight NAV fluctuations can impact the withdrawal amount if timed poorly.

3. Minimal impact on returns: The portion of your portfolio parked in liquid funds, waiting to be withdrawn, is relatively small compared to the overall portfolio. While short-duration funds may offer marginally higher returns, the difference in earnings for this small portion is negligible. For instance, the additional returns on a ₹10 lakh corpus parked in a short-duration fund might only amount to a few thousand rupees annually—hardly worth the added risk.

4. Earn peace of mind: The primary benefit of using liquid funds is intangible yet invaluable—peace of mind. Knowing that your withdrawal money is secure and unaffected by market fluctuations allows you to sleep soundly at night, free from the worry of short-term losses.

Suggested read: Liquid funds for short-term investments

Our take

Using a liquid fund for SWP withdrawals is a practical and risk-free choice. The potential higher returns from short-duration funds are not worth the small risk of temporary dips, especially when this money is earmarked for immediate needs. By combining a liquid fund for withdrawals and growth funds for long-term capital appreciation, you achieve stability, simplicity and peace of mind.

For tailored advice on optimising your retirement portfolio, consider Value Research Fund Advisor. We help you strike the perfect balance between safety and growth for a worry-free retirement.

Also read: What is an SWP in a mutual fund?

This article was originally published on December 06, 2024.