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Do you really need balanced advantage funds for your portfolio?

This category is best suited for reducing the impact of a major fall on your portfolio. In a rising market, these won’t give returns of pure equity funds

November 30, 2021 / 10:28 AM IST
Representative image

Representative image

Balanced Advantage Funds (or BAFs) seem to be the flavour of the season. In fact, if we were to look at the largest non-ETF equity and hybrid funds (use this MF Screener tool on MoneyControl), then we will find that there are two BAFs in the top-three positions by AUM (assets under management). So there is definitely something that is attracting investors towards this category.

BAFs are essentially Dynamic Asset Allocation Funds (or DAAFs) that move between different equity and debt allocation levels based on the underlying model. When the markets are volatile, these funds, at least theoretically, seem to be the right place to be in as they can increase or decrease equity at will.

All BAFs are not the same

This is what makes this fund category a bit difficult to pick funds from. Unlike other categories, here, each AMC has its own model that it uses to change fund allocation.

-Most BAFs stick to deciding allocation based on traditional factors such as price-to-earnings and price-to-book of the markets. These will increase allocation when valuation reduces and vice versa.

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-Some BAFs use their fund manager’s discretion to decide equity allocation.

-A few try to ride the market trends and have built-in momentum overlays and other technical factors in their models. This is also known as the pro-cyclical approach.

-Some funds many use a combination of the above-mentioned approaches.

Also, different funds take different approaches towards hedging within the portfolio. Some are more aggressive while others aren’t. Some are pretty dynamic while a few don’t even seem to be interested in hedging much!

By the way, most AMCs talk about the model but many aren’t so transparent about the exact approach. They would also use a lot of buzzwords and jargons to create a perception of their BAF being exotic and special. Be careful about such houses.

At a given point in time, only one of the approaches will work and deliver superior returns. So it’s not right to compare the peers on the basis of returns alone as each fund will have different periods that can be called its ‘good days’. This is just one of the factors that makes a comparison between different BAFs not exactly like-to-like.

Do you need Balanced Advantage Funds?

This category is best suited for reducing the impact of a major fall on your portfolio. In a rising market, these won’t give returns of pure equity funds due to obvious reasons.

As for the question of whether your MF portfolio needs Balanced Advantage Funds or not, there is no one right answer here. So let me list down a few points to help you decide it for yourself:

-For Short Term (up to three years): Many people are considering this category for parking funds for the short-term. But it’s worth remembering that it’s still an equity fund category at heart. And depending on different models being followed, it’s not uncommon for BAFs to have negative short-term returns when markets fall and remain lethargic for extended periods of time. So, if you want to invest in it for the short-term, just do understand this risk before doing so and even then, don’t consider it for large short-term allocation, unless you are a really aggressive investor.

-For Medium Term (3-6 years): This can be considered in combination with pure debt funds. The ability to adapt equity portfolios to different market conditions makes these funds a good option for having a dynamic equity exposure during this period.

-For long term (seven years or more): BAF is not required. I think that for this time horizon, you should manage the portfolio using pure equity and debt funds alone. You can manage the allocation yourself or get your investment advisor to do it for you.

But what if you are a DIY investor?

Then it’s best for you to manage your own asset allocation using separate equity and debt funds. You don’t need BAF unless you have some tactical strategy that demands BAF’s underlying model.

All said and done, you may still want to give this category a go as it’s getting a lot of publicity and you might be influenced sufficiently. So, if you have to, please make sure to understand how different BAF models work and which is best suited for your portfolio. All BAFs are not the same and some may not be fit for your portfolio.

These are not magic funds that you can use to just wish away bad returns.
Dev Ashish The writer is the founder of StableInvestor.com
first published: Nov 30, 2021 10:28 am
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