Liquid funds and ultra-short term funds are both SEBI-defined debt mutual fund categories designed for short horizons, but they differ mainly in portfolio duration, liquidity mechanics, risk-return profile, and use-cases for treasury and personal cash management.
Definitions and portfolio
- Liquid funds invest in money market and high-quality debt instruments with residual maturity up to 91 days, keeping duration very low and NAV volatility minimal for short-term parking of cash.
- Ultra-short duration funds hold debt and money market instruments targeting a Macaulay duration of 3–6 months as per SEBI category rules, positioning them one step above liquid funds on duration and potential yield
Investment horizon
- Liquid funds suit very short holding periods from a few days to about 3 months, commonly used for contingency buffers and transactional cash.
- Ultra-short duration funds are better aligned to roughly 6–12 months holding periods, reflecting the 3–6 month portfolio duration and slightly higher carry potential.
Liquidity and redemption
- Liquid funds generally offer very high liquidity, with many AMCs providing instant redemption up to specified limits; otherwise, redemptions are typically processed swiftly with T+1 settlement.
- Ultra-short duration funds usually redeem on T+1; they do not generally offer instant redemption features, so are marginally less liquid in practice for intraday needs.
Risk sensitivity
- Liquid funds carry low interest rate and credit risk due to very short maturities and high-quality money market exposure, resulting in low NAV fluctuation.
- Ultra-short duration funds have limited but higher interest rate sensitivity than liquid funds because of 3–6 month duration; credit quality is typically high (AAA/A1+ focus), but risk is marginally higher than liquid funds.
Return potential and volatility
- Liquid funds typically deliver lower returns than ultra-short duration funds, commensurate with their shorter maturity and minimal duration risk.
- Ultra-short duration funds target slightly higher returns than liquid funds by extending duration modestly while seeking to keep volatility relatively contained versus longer-duration debt categories.
Costs and loads
- SEBI caps liquid fund expense ratios with a low upper limit; many liquid schemes run lean, aiding net-of-fee outcomes for cash management.
- Ultra-short duration funds also tend to run with low expense ratios relative to longer-duration categories; however, exit load practices vary across schemes and should be checked in the SID/ KIM.
Operational cut-offs
- Liquid funds commonly use a 3:00 p.m. cut-off for both purchase and redemption applications for that day’s NAV in many AMCs.
- Some platforms cite purchase cut-off of 1:30 p.m. and redemption by 3:00 p.m. for ultra-short duration funds; investors should verify fund house specifics and platform rules before placing transactions.
Tax treatment (India)
- For non-equity mutual funds including liquid and ultra-short duration, post-2023 rules generally tax gains as per slab rates without indexation, making holding-period arbitrage less relevant; investors should consult current AMC and tax guidance for specifics.
- Practically, both categories fall under debt taxation norms, so investor slab and entity type (retail vs. treasury) influence post-tax returns more than category choice alone.
Suitability
- Choose liquid funds for emergency funds, rolling operating cash, predictable payouts, and situations where same-day or instant access may be required.
- Choose ultra-short duration funds for near-term goals in the next 6–12 months where modestly higher carry is desired with limited but non-zero rate risk and T+1 liquidity suffices.
Practical selection checklist
- Duration discipline: Confirm SEBI-aligned portfolio Macaulay duration—≤91 days (liquid) vs. 3–6 months (ultra-short).
- Credit quality: Prefer portfolios concentrated in AAA/A1+ with clear internal credit risk controls and low issuer concentration.
- Liquidity mechanics: Verify instant redemption availability and limits for liquid funds; confirm T+1 timelines and cut-offs for ultra-short funds.
- Expenses and loads: Check TER and any exit load windows (e.g., initial 7 days in liquid schemes; fund-specific terms in ultra-short).
- Use-case fit: Map to cash ladder—overnight/instant needs (savings/overnight/liquid), weekly/monthly flows (liquid), and 6–12 month parking (ultra-short).
Comparison table
Key caveats
- Even short-duration debt is not risk-free: abrupt rate moves or isolated credit events can impact NAVs; emphasize AMC credit processes and issuer diversification.
- Tax parity across debt categories means post-tax outcomes hinge on investor slab and instrument yield more than category labels; selection should be objective-driven rather than generic return-chasing.
Editorial take
- Treasury/corporate cash: Segment cash by need—instant/transactional balances to liquid funds with instant redemption; forecastable 1–3 month buffers to liquid funds; 3–12 month reserves to ultra-short duration to pick up incremental yield while keeping mark-to-market risk modest.
- Retail investors: Anchor emergency corpus and bill-cycle buffers in liquid funds; deploy near-term goals within a year to ultra-short duration, accepting slightly higher but still limited interest rate risk for better carry.
Disclaimer
The information provided herein is intended solely for educational and informational purposes. It should not be construed as financial, legal, or investment advice. While efforts have been made to ensure accuracy, the content may be subject to change due to legislative amendments or judicial interpretations. Readers are advised to consult with qualified professionals for advice specific to their financial or legal circumstances.
