What Are Overnight Funds? Understanding Benefits and Risks
Most of us face a typical situation sometime or the other, where we have idle cash and keep wondering where to park it without taking too much risk. If you’re on the same boat, it’s time to explore overnight funds.
Investors who prefer keeping their money liquid and yet look for better returns than a savings account find overnight funds an increasingly popular choice. These funds are highly liquid and are not designed for long-term wealth creation. They play a critical role in short-term financial planning and balancing your portfolio.
What Are Overnight Funds?
Overnight funds, a category of debt mutual funds, invest in securities with just one day as the maturity period.
Typically, these securities include:
- Overnight reverse repos
- Treasury bills
- Other collateralized lending instruments
Fund managers buy these instruments at the start of the day and sell them the next. Therefore, your portfolio is reset daily when you invest in overnight funds.
Overnight funds carry a minimal interest rate and credit risk due to their very short maturity period. Thus, they are one of the safest fixed-income options among mutual funds.
Investors who wish to park their surplus cash for a few days or weeks without locking it away often go for overnight mutual funds.
Key Benefits of Investing in Overnight Funds
Now, let’s have a look at the prime benefits of investing in overnight funds.
Low Credit Risk
As the underlying securities mature within 24 hours, the exposure to the risk of default is extremely low. There’s almost no chance for a downgrade or corporate event to impact the fund value overnight. Naturally, overnight funds are one of the best debt mutual funds when you think of preserving your capital.
High Liquidity
The easy redemption with T+1 settlement makes overnight mutual funds a popular choice. Typically, this means you can get the amount back to your account the next business day. It makes them excellent tools for temporary parking or emergency fund buffers.
No Exit Load
With most debt mutual funds, you need to pay an exit load if you redeem your money within a few days or weeks. However, overnight funds come with zero exit load. This allows you to withdraw money without any extra expenses, even if you had invested just the day before.
Better Returns than Savings Accounts
While a savings account may offer 2.5% to 4% returns annually, overnight funds often outperform this without exposing your money to unnecessary risk. Both individuals and businesses can use their idle capital to earn higher returns in the short run.
Risks and Limitations of Overnight Funds
Although overnight funds are considered to be relatively safe, they aren’t free from limitations.
- Returns from overnight funds are generally lower than other types of debt funds, like liquid funds or short-duration funds.
- Overnight funds are not substitutes for equity or even mid – to long-duration debt funds.
- Some operational risks are involved, like a delay in settlement or systemic liquidity issues.
If you belong to any of the following categories, overnight funds are ideal for you:
- Investors looking to park money temporarily for a few days to a few weeks
- Those with a low-risk appetite willing to invest in mutual funds without market fluctuations
- Investors waiting to reallocate funds into equities, SIPs, or other instruments at the right time
Therefore, you must go for overnight funds if you consider capital preservation and instant liquidity top priorities.
Final Thoughts
As an investor, you must perceive overnight funds as a strategic tool that combines liquidity with stability. While they are not designed to deliver high returns or build assets, they quietly protect your capital and help you grow your idle capital. If you’re looking to build a flexible and well-diversified portfolio, it’s time you gave overnight funds a serious thought.
