Moneycontrol
Feb 03, 2016 11:08 AM IST | Source: Moneycontrol.com

Invest in hybrid funds to beat market volatility

In volatile times most equity investors wonder if they should pull out. Also the first time investors find it difficult to invest in stocks. Here is a solution that works for both them.

Pankaj Mathpal

Equity markets have been volatile for last few months. Markets move up one day and correct the next day causing anxiety for some investors. In the absence of clear direction retail investors find it difficult to enter the equity market. If current volatility in equity markets is a cause of concern for you then consider hybrid funds in your portfolio. These funds seek to offer the benefit of both worlds in a single investment structure as equity has the potential to deliver attractive returns in long term while debt provides relative stability to the portfolio. Hybrid funds can be further classified as equity oriented or debt oriented hybrid funds. Equity oriented hybrid funds generally known as balanced funds while the debt oriented hybrid funds are better known as monthly income plans or MIPs. Usually, balanced funds allocate in the ratio of 65% equity and 35% debt, including some cash. Monthly income plans on the other hand generally allocate 5% to 25% in equity and balance in debt securities. Unlike a pure equity fund the growth potential as well as risk of volatility is limited to the equity allocation in these funds.

Funds with dynamic asset allocation

Within hybrid funds there are low volatility equity funds or balanced advantage funds. These funds tend to have portfolios with a mix of stocks and debt securities that respond to market conditions as perceived by the fund manager. Equity exposure may go as high as 80% in these funds when markets are favourable for investment. Stock selection in these funds is based on the valuation yardstick such as price-to-book value. These funds are structured to invest in equities when markets are cheap and book profits when markets are rising, thus minimising risk and aiming to provide good long-term returns. The objective of these funds is not only to beat the volatility but to provide long term growth. Several studies have confirmed that performance of a portfolio is majorly determined by asset allocation. Therefore getting the asset allocation right works well with the market conditions is a must for creating long-term wealth. Tax efficiency is another advantage of these funds. Due to their minimum 65% allocation in equity these funds offer taxation like equity funds. If the holding period is longer than a year, returns are tax-exempt; otherwise, they are subject to short-term capital gains tax.

Suitable for all investors

Due to limited exposure in equity these funds are less aggressive compared to pure equity funds and hence possess lesser risk. These funds are suitable for investors who are looking for a lower risk without compromising on the long term growth potential of equity. It can be a preferred solution for investors looking for dynamic asset allocation but find it difficult to rebalance the portfolio according to market condition. These funds can also be considered by first time equity investors who want to enjoy the benefits of equity investment but worried about volatility as a nature of equity market.

Author is a Certified Financial Planner and founder of Optimamoney.com and can be reached at pankaj@optimamoney.com
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