What is Low Duration Fund, Meaning, Risk, Returns, Benefits, Components and Examples

June 17, 2025

What is Low Duration Fund?

A Low Duration Fund is a type of debt mutual fund designed for investors seeking moderate returns with minimal interest-rate risk. As per SEBI’s classification, these schemes invest in debt and money market instruments so that the portfolio’s Macaulay duration remains between six and twelve months. In simple terms, Macaulay duration measures how sensitive a bond portfolio is to changes in interest rates the shorter the duration, the less impact rising rates will have on the fund’s net asset value. Low Duration Funds therefore aim to offer stability and liquidity while delivering better yields than traditional savings instruments.

Definition of Low Duration Fund

Low Duration Funds fall under SEBI’s “short maturity” debt category. According to SEBI’s categorization circular, the defining characteristic is that the fund manager must maintain the portfolio’s Macaulay duration in the range of six to twelve months. This restriction helps ensure that the fund remains relatively insulated from sharp interest-rate fluctuations, making it suitable for investors who want to park money for a few months to a couple of years without taking on excessive volatility.

Meaning of Low Duration Fund

At its core, a Low Duration Fund is about balancing risk and return over a short time frame. By investing primarily in instruments that mature within a year, the fund reduces exposure to longer-term interest-rate movements, which can dramatically sway bond prices. This makes Low Duration Funds particularly appealing for conservative investors, corporate treasuries, or anyone who needs their money back within 12 months to 24 months but still wants yields above a savings account or liquid fund. The trade-off is modest returns in exchange for greater price stability.

How Does Low Duration Fund Work?

A Low Duration Fund works by pooling money from multiple investors and deploying it into a diversified mix of short-term debt instruments. Common holdings include high-quality corporate bonds, certificates of deposit (CDs), commercial paper (CP), treasury bills (T-bills), and interbank call money. The fund manager continuously monitors interest-rate trends and credit spreads, adjusting the portfolios to maintain the targeted duration band of six to twelve months.

When an instrument matures or market conditions shift, the manager may sell holdings or roll into new issues to capture incremental yield, while keeping an eye on credit risk and liquidity. Interest and coupon payments from these instruments are passed through to unitholders as part of the fund’s net asset value.

Types of Low Duration Fund

While all Low Duration Funds share the core objective of short maturity and moderate risk, they can differ by credit quality focus and investment style:

Credit-Oriented Low Duration Funds prioritize corporate bonds and may accept slightly lower-rated issues to enhance yield.
Government-Focused Low Duration Funds concentrate on sovereign securities and treasury bills, trading slightly lower yields for very high safety.
Savings Funds (also known as ultra-short-income or corporate savings funds) hold a mix of low-duration bonds and money-market paper, aiming for a balance between yield and liquidity.
Dynamic Low Duration Funds adjust both duration and credit allocation flexibly, within the SEBI duration limits, to exploit market opportunities.

These variations allow investors to select a fund that best matches their income needs and risk appetite.

Benefits of Low Duration Fund

Low Duration Funds offer several advantages:

Lower Interest-Rate Risk: With a portfolio duration capped at one year, these funds face less price volatility when rates change, compared to longer-duration bonds.
Enhanced Liquidity: Most Low Duration Funds have no or low exit loads and settle investor redemptions in T+1 days, making them almost as accessible as liquid funds.
Competitive Yields: They usually deliver higher returns than pure savings or liquid funds, as they tap into slightly longer maturities and credit spreads.
Stability of Returns: The shorter duration envelope helps prevent large NAV swings, making performance more predictable and appealing to risk-averse investors.
Tax Efficiency: As debt funds, they benefit from long-term capital gains treatment after three years (subject to indexation), which can lower the tax burden for investors holding units beyond the horizon.

Features of Low Duration Fund

Key characteristics of Low Duration Funds include:

Macaulay Duration Range: Strictly 6-12 months, to reduce sensitivity to rate shifts.
Instrument Mix: A blend of corporate bonds, CDs, CP, T-bills, and other money-market securities.
Credit Quality: Predominantly high-rated instruments (AAA/AA+) but may include lower ratings in credit-oriented variants.
Exit Load and Liquidity: Typically, zero exit load after a brief initial lock-in (e.g., 7 days), with T+1 day settlement.
Expense Ratio: Often higher than liquid funds but lower than longer-duration bond funds, reflecting the active management required.
Benchmark: Usually, a short-term debt index such as the CRISIL Short Term Bond Fund Index or similar.
Risk Profile: Positioned between liquid funds and short-duration funds, offering a middle path for duration and yield.

Examples of Low Duration Fund

Several well-known AMCs offer popular Low Duration Funds, including:

Sundaram Low Duration Fund
HSBC Low Duration Fund
UTI Low Duration Fund
HDFC Low Duration Fund
Kotak Low Duration Fund
Aditya Birla Sun Life Low Duration Fund
Nippon India Low Duration Fund
Axis Treasury Advantage Fund
Mahindra Manulife Low Duration Fund
Mirae Asset Low Duration Fund

These schemes vary in size, performance history, and expense ratio, giving investors a range of choices.

Components of Low Duration Fund

A typical Low Duration Fund portfolio comprises:

Corporate Bonds: High-rated debt issued by companies, providing carry and credit spread.
Treasury Bills: Sovereign zero-coupon securities issued by RBI, offering highest safety.
Commercial Paper (CP): Short-term corporate borrowings, generally up to 1 year maturity.
Certificates of Deposit (CD): Bank-issued, time-bound deposits that trade on secondary markets.
Interbank Call Money or Repo: Overnight or very short-term lending between banks, for liquidity management.
Other Money-Market Instruments: Such as CBLO or government securities with residual maturity under a year.

The manager’s task is to blend these components to hit the target duration and credit profile, while optimizing yield.

Objectives of Low Duration Funds

The primary goals of investing in Low Duration Funds are:

Capital Preservation: Reducing NAV volatility to guard principal, especially when rates may rise.
Income Generation: Capturing yields higher than savings accounts and liquid funds without excessive risk.
Liquidity Management: Providing quick access to funds for short-term needs, with minimal transaction costs.
Portfolio Diversification: Adding a debt allocation that smooths out equity market swings.
Tax Efficiency: Leveraging long-term capital gains benefits if units are held beyond three years.

Taxation Rules of Low Duration Funds

Tax treatment for Low Duration Funds aligns with debt mutual funds in India, and varies by purchase date:

Units Purchased Before April 1, 2023

Short-Term Capital Gains (STCG): If redeemed within 36 months, gains taxed at the investor’s slab rate.
Long-Term Capital Gains (LTCG): If held beyond 36 months, gains taxed at 20% with indexation benefit.

Units Purchased On or After April 1, 2023

All Gains Taxed as STCG: Regardless of holding period, gains taxed at the investor’s slab rate, with no indexation benefit.

Dividend Payouts: Taxed in hands of investor at the applicable slab rate; dividend distribution tax was abolished in 2020.

TDS: No TDS on redemption; tax must be declared by the investor when filing returns.

How to Find Out Best Low Duration Fund?

Selecting a top-performing Low Duration Fund involves evaluating:

Historical Performance: Look at 1-, 3- and 5-year annualized returns, while noting that past returns do not guarantee future results.
Risk-Adjusted Metrics: Consider Sharpe ratio and standard deviation higher Sharpe and lower deviation indicate steadier performance.
Expense Ratio: Lower costs directly boost net returns over time, especially in debt funds where yields are moderate.
Fund Size and AUM Growth: Larger AUM suggests investor confidence and liquidity, but extremely large size may hamper maneuverability.
Portfolio Credit Quality: Assess the mix of AAA/AA instruments versus lower-rated paper to gauge default risk.
Fund Manager Track Record: Experience in debt markets and consistency in maintaining duration discipline are key.
Exit Load and Lock-In: Ensure the exit load aligns with your investment horizon to avoid unintended costs.

List of Low Duration Funds in India

Some of the most highly regarded Low Duration Funds as of mid-2025 include:

Sundaram Low Duration Fund
HSBC Low Duration Fund
UTI Low Duration Fund
HDFC Low Duration Fund
Kotak Low Duration Fund
Aditya Birla Sun Life Low Duration Fund
ICICI Prudential Savings Fund (savings category with similar duration)
Nippon India Low Duration Fund
Axis Treasury Advantage Fund
Mahindra Manulife Low Duration Fund
Mirae Asset Low Duration Fund
Baroda BNP Paribas Low Duration Fund
SBI Magnum Low Duration Fund
JM Low Duration Fund
LIC MF Low Duration Fund.

Best Tips to Consider Before Investing in Low Duration Funds

Align with Time Horizon: Use Low Duration Funds for goals within 6-24 months. For shorter horizons (<6 months), liquid funds may be better.
Compare Expense Ratios: A difference of even 0.25% per annum can materially affect returns over a year.
Review Credit Quality: Funds heavy on AAA paper have lower risk but may yield slightly less than credit-oriented peers.
Check Exit Load Terms: Ensure any exit load will not eat into returns if you plan frequent redemptions.
Assess Fund Manager Tenure: A stable, experienced manager often navigates rate cycles more effectively.
Look at Holding Concentration: Highly concentrated portfolios can be riskier if any single issuer defaults.
Monitor AUM Trends: Rapid inflows might affect a fund’s ability to invest in smaller issues at attractive yields.

What are the Returns on Low Duration Funds?

Over the past five years, top Low Duration Funds in India have delivered annualized returns generally between 6.5% and 8.5% per annum. For instance, HDFC Low Duration Fund and Nippon India Low Duration Fund have logged around 7.8%-8.0% annualized returns over five years, while Sundaram and UTI’s offerings have produced roughly 6.6%-7.0% p.a. These figures sit comfortably above prevailing savings account rates (3%-4%) and on par with or slightly better than liquid funds, rewarding investors for taking modest duration risk.

Who Should Invest in Low Duration Funds?

Low Duration Funds suit a variety of investors:

Conservative Individuals who want better yields than bank deposits with limited volatility.
Corporate Treasuries and Businesses needing to manage working capital with predictable returns.
Retirees or Near-Retirees seeking stable income and capital preservation over the short term.
New Investors testing debt funds before moving into longer-duration or hybrid categories.
Portfolio Diversifiers aiming to balance equity exposure and anchor overall volatility.

Why to Invest in Low Duration Funds?

Investors choose Low Duration Funds because they:

Offer a Superior Yield compared to pure liquid funds or savings deposits.
Maintain High Liquidity with minimal exit barriers.
Protect Principal against major NAV swings when rates rise.
Provide Tax Benefits via long-term capital gains treatment (for pre-April 2023 investments).

These funds occupy the sweet spot between absolute liquidity and income potential, making them a pragmatic short-term investment tool.

When to Invest in Low Duration Funds?

Ideal entry points include:

Rising Interest-Rate Cycles: Short-duration portfolios adjust more swiftly, cushioning the impact of hikes.
Before Known Cash Needs: When you know you will need funds in 6-12 months (e.g., tuition, down payment), Low Duration Funds can park money safely.
Balance Equity Gains: After a strong equity rally, shifting some profits into low-duration can protect gains.
Market Uncertainty: When volatility spikes, these funds can act as a safe harbor while rates are relatively stable.

Why to Consider Low Duration Funds in Your Portfolio?

In a diversified portfolio, Low Duration Funds help by:

Reducing Overall Portfolio Volatility: Their stable returns smooth out equity swings.
Maintaining Liquidity: Easy redemptions without penalty ensure cash is available when needed.
Enhancing Yield: They typically outperform ultra-short and liquid categories in a neutral rate environment.
Managing Interest-Rate Cycles: Short durations mean faster reinvestment at higher yields when rates move up.

How to Invest in Low Duration Funds?

Investing is straightforward:

Complete KYC (Know Your Customer) via your bank, AMC, or online platform.
Choose an AMC or Platform.
Select the Plan: Regular vs. direct (direct plans have lower expense ratios).
Decide on Amount: Lump sum or SIP lump sum for near-term needs, SIP for staggered entry.
Place Order: Fill redemption instructions and choose payout preferences.
Monitor: Review performance quarterly to ensure the fund still meets duration and credit objectives.

Risks Involved with Low Duration Funds

Though relatively safe, these funds carry risks:

Credit Risk: A corporate bond default can dent NAV; even AA-rated debt has some risk.
Reinvestment Risk: Rolling over maturing instruments at lower yields can reduce returns.
Liquidity Risk: In extreme stress, some CP or CD issues may be hard to sell, impacting fund liquidity.
Tax Regime Change: Post-April 2023 taxation removes indexation benefit, raising the tax cost on gains for some investors.
Tracking Error: Funds deviating from the target duration band can see higher volatility than peers.

Summary

Low Duration Funds are short maturity debt schemes with portfolio duration of 6-12 months.
They invest in corporate bonds, T-bills, CDs, CP, and other money-market instruments.
Benefits include lower interest-rate risk, high liquidity, competitive yields, and tax efficiencies.
Top Indian schemes include Sundaram, HSBC, UTI, HDFC, Kotak, Aditya Birla, Nippon India, Axis, Mahindra Manulife, and Mirae Asset Low Duration Funds.
Taxation varies: pre-April 1, 2023 units enjoy 20% LTCG with indexation; post-April 2023 units taxed fully at slab rates.
Ideal for conservative investors, corporate treasuries, and portfolio diversifiers seeking stable returns over 6-24 months.
Key risks include credit defaults, reinvestment risk, and changing tax rules.
To choose the best fund, compare performance, expense ratio, credit mix, fund manager track record, and AUM trends.
Investing is simple via AMC websites or online platforms just complete KYC, select a direct plan, and start with lump sum or SIP.