Balanced funds- Enjoy the best of both worlds

Juzer GabajiwalaVentura SecuritiesThe much touted phrase ‘the best of both worlds’ perfectly captures the experience of investing in a balanced fund. On the one hand, this combination offers scope for capital appreciation or wealth creation (with risk of downside) due to investments in equity. And, on the other, the debt component in such a portfolio reduces the risk or volatility of the portfolio compared to pure equity funds.Typically, in a balanced fund, the allocation towards equity is approximately 65-75% and the balance 25-35% goes towards the debt component. Let us take a closer look at this category of funds and who the type of investors it is suitable for:1. Ideal for first time or new investor: In a balanced fund, the debt component in the portfolio provides a cushion against volatility while equity allows a portfolio to grow. A combination of equity and debt brings balance to the investment portfolio as both the asset classes behave differently in terms of performance in different market conditions. Also, the equity portfolio for most funds is skewed towards large cap or blue chip stocks. This gives first time investors the reassurance of a relatively safe portfolio along with scope for wealth creation.2. Investors who are seeking convenience in terms of a single product: With a balanced fund, one gets the flavor of both equity and debt by investing in only one fund. This reduces the need to invest in multiple funds and manage multiple investment instruments.3. Investors looking for regular income: There is a shift or change in this category of funds in terms of dividend payout from the annual to the monthly option for most schemes. This makes it an attractive investment option for individuals looking for a regular income, especially if they are willing to have a longer time horizon and have a reasonable risk appetite. Not only the dividends received are tax free in the hands of the investor but there is a possibility of an upside in returns expected (of course, cannot rule out the downside since it is, after all, equity). This is an attractive investment for tax-paying individuals specifically those in the higher tax-brackets.Let us look at an example to know how much dividend would accrue if one had invested Rs. 1 lakh in Jan 2011 and Jan 2013in a balanced fund with a monthly dividend option:Data as on June 30, 2016As seen from the above table, on an investment of Rs 1 lakh the total dividend received is approx. Rs. 47,200 and Rs. 31,200 for an investment made in the year 2011 and 2013 respectively. Hence, the dividend yield comes to 8.1% and 8.2% for investment made in the year 2011 and 2013 respectively.4. Automatic asset allocation and rebalancing: Generally, most of us invest our money whenever there is excess cash available and then we forget to review or rebalance our portfolio on an ongoing basis. This leads to excess exposure in one or some particular asset classes at different points of time. For example, if the equity market is bullish or trending upward, then one would be over-weight in equities due to rising equity values in the portfolio. On the other hand, if the equity market is bearish or trending downward, then one would be under-weight in equities due to the falling value of equity in the portfolio. Here, the balanced fund comes in handy as there is an automatic rebalancing, for example, if the equity market corrects, the fund would buy equity in case exposure goes below 65% as there is a mandate to maintain at least 65% exposure to equities.5. Tax Advantage: The taxation applicable to balanced funds is the same as it is for equity funds, i.e. long term capital gains are tax free if the holding period is at least one year and short term capital gain are taxed as per the income tax slab rate of the individual. By doing a comparison between the return on balanced funds and pure equity funds, it was interesting to know that balanced funds have been able to out-performe equity funds and their benchmark over the last 5 years, even with a low exposure (65-75%) towards equity, as seen from the data below: Data as on June 24, 2016.Conclusion: It is an ideal investment option for first time investors who wish to invest in equities while taking only a moderate risk. Also, it is tax efficient and provides regular income (dividend yield of approx. 7.50% to 8.00% p.a.) to individuals in the higher tax bracket with some risk appetite.