What Are Overnight Funds?

Overnight funds are a type of open-ended mutual fund that parks money in overnight securities and provides investor-friendly features. If you are planning to invest your surplus money in a safe place, overnight funds can be the best solution for you.

Overnight funds have become popular, and it is noticeable that a large number of people are heading towards these funds. This blog explains what is overnight funds with an example, their essential features, and how to choose one.

What are Overnight Funds?

Overnight funds are a category of highly liquid debt mutual funds that focus on providing stable returns with minimal risk to investors. These funds invest exclusively in debt securities that mature within a single day, ensuring both safety and predictability.

Fund managers maintain a rolling cycle by reinvesting the proceeds from matured securities into new one-day instruments, keeping the portfolio constantly refreshed. Investors can place buy and redemption orders during trading hours, and the fund manager executes these orders daily.

This structure makes overnight funds an attractive option for conservative investors seeking liquidity, security, and short-term parking of funds.

How Does an Overnight Fund Function?

Since you know overnight funds meaning, let us understand how it works. As per the regulations by the Securities and Exchange Board of India, you can use overnight funds to buy money market products with a maturity date of one day or less. The fund’s portfolio undergoes regular changes as the underlying securities mature, making space for the new ones.

To make consistent turnover, the fund manager replaces overnight maturing debt securities with fresh ones daily. The assets under management (AUM) experience incremental growth because of the interest payments from the securities.

Overnight Funds Example

Let us understand what is an overnight fund using an example to help you understand the concept in depth. Suppose you want to invest INR 1 lakh in an overnight fund having a current Net Asset Value (NAV) of INR 1000 per unit.

Number of fund units you would get:

INR 1 lakh / INR 1000 per unit = 100 units

For instance, the next day, the NAV of the fund increases to INR 1002.

Your investment value is now worth:

INR (100 units x INR 1002) = INR 10,02,200

This shows how overnight funds can generate small but quick returns.

Essential Features of Overnight Funds

1. Low-Risk

   Since they have default risks and have a short maturity period, overnight funds are considered a low-risk investment option.

2. Moderate Returns

   Overnight funds also offer stable returns because of their short maturity period. These returns align with the short-term interest rates in the market.

3. Flexibility

   Once you deposit your money, you can reinvest and withdraw daily and improve your long-term profitability.

4. Low Volatility

   Due to the short maturity period of the securities, there is a low impact of interest rate changes on the NAV.

5. High Liquidity

   You can also avail the liquidity benefits from the short maturity period of overnight funds. This allows you to access your funds without incurring penalties or exit loads.

Who Can Use the Overnight Funds?

Anyone with knowledge of financial markets can invest in overnight funds. However, people with the following needs can benefit the most from these funds:

1. People have short-term cash surpluses that they do not want to use.
2. People who are seeking a safe and liquid investment option.
3. Investors who can accept lower returns but prioritise safety and liquidity.

However, if you want to invest in mutual funds, download the PL Capital Group – Prabhudas Lilladher application and open a Demat account for free. PL allows you to invest in mutual funds from more than 45 houses.

How to Choose the Best Overnight Fund for Investing?

Choosing the best overnight funds can never be easy. Consider the factors below to choose the best overnight fund for you:

1. Understand Your Investment Goals

   Determine your investment objectives, whether they are aligned with the short-term nature of overnight funds. These funds offer high liquidity and have a holding period of less than one day.

2. Analysing the Past Performance

   Once you analyse your investment goals, check the past performance of an overnight fund. Compare the past performance among various overnight funds and choose the one which has provided consistent returns.

3. Evaluating the Expense Ratios

   Evaluate the expense ratio of the fund as it is charged as the annual fee as a percentage of the fund’s AUM. Always look for funds with lower expense ratios since they can enhance your net returns.

4. Comparing the Liquidity

   Overnight funds are used to avail the liquidity benefits. Therefore, you must confirm that your chosen fund maintains high liquidity levels. High liquidity ensures that you can access your money quickly without any delays or penalties.

5. Review of Fund Manager’s Expertise

   Lastly, review the experience and track record of the fund manager of an overnight fund. An expert fund manager can tackle interest rate fluctuations and credit risks very efficiently. You must research the manager’s background and their strategy for managing overnight funds.

Tax Application on Overnight Mutual Funds

Just like any other debt mutual fund, you need to pay taxes for selling overnight funds. However, as per tax rules from April 1, 2023, there is no indexation benefit available, regardless of the holding period.

Therefore, gains made from overnight funds are taxed according to the investor’s applicable income tax slab rate, whether you sell them after one day or one year. For instance, if you fall under the 20% tax bracket, you also have to pay 20% tax on the returns you earn from overnight funds, including the applicable cess and surcharge.

Final Thought

Overnight funds can offer value and safety for your investments, but may not offer high returns. Understanding what is overnight funds can help you identify an investment option where you can park your surplus money when you want returns by avoiding risks.

Looking for mutual funds? Use the PL Capital application and invest in a mutual fund scheme as per your investment goals and risk tolerance. Using the PL application, you can avail both the lump sum investment and the systematic investment plan (SIP).

Frequently Asked Questions

1. How long should you invest in overnight funds?

Experts suggest that you must invest in overnight funds for a very short timeframe, like one day to a week, since they are ideal for short-term parking.

2. How are taxes applicable to overnight funds?

Your gains from overnight funds are taxed according to your applicable income tax slab rate.

3. What is the expense ratio of overnight funds?

There is no exact expense ratio in overnight funds, since they vary depending on each fund.

4. Can overnight funds allow for parking surplus cash for short periods?

Yes, overnight funds are used for parking surplus cash for short-term periods, and these funds do not fluctuate much.