Most of the mutual fund investors typically tend to gravitate either towards equity mutual funds or towards debt mutual funds. Typically, the small and retail investors tend to gravitate towards equity funds, and rightly so. It enables them to invest small sums of money on a regular basis and build a healthy and valuable portfolio over a period of time. It is also the best proxy for direct investment in equity. On the other hand, corporates and high net worth investors tend to gravitate more towards debt funds. In fact, some of the more well-informed investors also tend to take a view on interest rates and invest or divest in debt funds. Is there a way, retail investors can get the benefit of both equity and debt funds with a single investment? The answer could lie in balanced funds, and here is how they work.
Why balanced funds at this juncture?
Balanced funds, as the name suggests, combine investments in equity and debt to give the retail investors the best of both worlds. To explain this concept a little more elaborately, balance funds can be of two kinds. If the balanced funds have a predominance of equity they are referred to as Hybrid Funds or simply Balanced Funds. On the contrary if they have a predominance of debt then they are called as Hybrid Debt Funds or MIPs.
From a retail investor’s perspective the Balanced Fund gives the best advantages of capital appreciation through equity with the safety and stability of debt. The MIPs, on the other hand, give you the stable returns of debt with the return booster of equities. The markets are currently in a state of flux where global data points like US rate action, Chinese growth, crude oil prices and Japanese interest rates are influencing domestic markets. These are factors that fund managers do not have any control over and hence a hybrid fund makes a lot of sense to small investors.
Also check out the Asset Allocation Plans…
A smarter and more refined version of the Balanced Fund is the Dynamic Asset Allocation Plan. This is an extended version of the Balanced Fund, wherein your exposure to equities and debt is constantly modified based on changing profile of the drivers. Let us understand this with an example.
A Dynamic Asset Allocation Plan typically defines a range for its equity allocation. For a Dynamic plan can have a range of 40%-65% for equities. This decision will be linked to the P/E of the Nifty or Sensex. When the P/E moves below the long term average P/E of 14, then the fund manager will ensure that 65% of allocation is in equities. But when the P/E moves towards 20, the fund manager will ensure that just about 40% of allocation is in equities. This ensures that an automatic mechanism of profit booking is put in place and this ensures that liquidity is assured in the fund where stock buying opportunities arise at lower levels.
A Dynamic Plan can also be in terms of debt allocation. For example, the debt range may be defined as 30%-65% for debt linked to the interest rates. If the reference 10-year benchmark yield moves closer to 10%, the fund manager will ensure that 65% of the allocation is to debt. But if the benchmark yield moves closer to 6%, then the fund manager will ensure that only 30% is allocated to debt. This will ensure that the fund automatically gets the benefit of interest rate movements through an in-built rule.
Balanced funds can also be tax efficient…
In India a lot of investment decisions are driven by the tax angle and balanced funds are no different. According to the Income Tax Rules, any mutual fund that has an exposure of over 50% to equity is classified as an equity fund. Hence all the tax benefits of an equity fund like tax-free dividend, exemption from long term capital gains and concessional rate of short term capital gains are all applicable to balanced funds too. This is an added advantage of balanced funds that one cannot ignore.
Investors must seriously look at balanced funds as an investment option in the current investment scenario. Remember, it is not just about tax benefits. It also provides the much needed stability and alpha to your portfolio when equities are vulnerable to global uncertainties. That could be a real advantage in volatile times!
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