Invest in hybrid mutual funds for best of both worlds

Equity markets despite offering better returns in the long run are volatile in short-term. Debt markets are relatively less volatile while offering consistent but lesser returns.

Though investments need to be picked depending upon the individual’s risk appetite, investors looking for best of both worlds could consider investing in the hybrid mutual funds.

Due to the recent Sebi categorisation, the hybrid fund category has sub-category of conservative, balanced, aggressive, dynamic asset or balanced advantage, multi-asset allocation, arbitrage and equity savings fund.

This further classification is based on the proportion of equity investment in the fund. For instance, in conservative hybrid fund, the debt composition is high and up to a minimum of 80 per cent while in the balanced category, the minimum equity composition is at least 65 per cent of the fund. The dynamic asset mutual fund (MF) doesn’t really specify the composition of debt and equity but varies according to the market opportunities.

The balanced advantage is an interesting category where other than the debt and equity allocations, there is a piece of exposure to future & options (F&O) to hedge the portfolio. This allocation not only participates in the market growth but also limits the possibility of losses while ensuring a consistent return in debt exposure. This category has seen a recent fillip especially after the Sebi categorisation. 

The multi-asset allocation needs at least three different asset classes with an exposure of at least 10 per cent of the fund allocated in each asset class. These funds use the exposure of gold through ETF investments which brings in the yellow metal’s contrarian flavour to the portfolio. The taxation for these funds however would be on par with the debt funds. 

Arbitrage funds take the advantage of the price differential of the same asset at different places to generate returns. These funds take leeway by purchasing a stock in the cash market and simultaneously selling a contract in the futures market or vice-versa. As most of these positions are hedged, they generally are treated as less risky. 

While the equity savings funds aim to generate returns from equities, debt and derivatives, a similar feat attained by balanced advantage funds. The only difference however is the predominant exposure to debt and thus the risk associated with them. The use of derivatives brings down the equity exposure to 20-40 per cent of the portfolio reducing the volatility associated with equity investments. 

From a risk perspective, all the hybrid funds fall in the category between the equity and debt while the return would be a tad higher than pure debt funds. Also, some of these funds have equity taxation that would eventually better the post-tax returns. 

These funds could be well employed while building portfolios to bring better risk to rewards in the portfolio. Some of these funds could also take advantage of the market cyclical opportunities and so be employed thus. (The author is a co-founder of Wealocity, a wealth management firm and could be reached at knk@wealocity.com)