For each style of investor (conservative or low risk-taker to aggressive or high risk-taker), there are several hybrid funds that can help meet particular medium-term financial goals.
Let's take a closer look at these subcategories.
According to SEBI, hybrid funds can be classified into the following categories based on their exposure to equity, debt, and other asset classes:
1. Conservative Hybrid Fund — This type of fund is required to invest between 10% and 25% of its total assets in equity and equity-related securities, with the balance 75-90 percent in debt. It's also known as a Debt Hybrid Fund because of its heavy weighting on debt instruments.
The debt half of the portfolio is designed to give the security and consistency of monthly income from coupon payments, but the equity portion has the potential to provide additional income from dividends as well as capital appreciation over time. A conservative hybrid fund actively manages its duration, which can range from short to long. Bond ratings may also be mixed, indicating a higher credit risk. The stocks in the equity section may have a variety of market capitalizations.
Who should make an investment?
A Conservative Hybrid Fund is a good option if you don't want to take on too much risk, have medium-term goals (about 3 to 5 years), want to have some equity exposure, and have moderate return expectations. To ensure that they invest in the correct fund depending on their risk appetite and investment purpose, investors should examine the portfolio maturity and credit profile, as well as the scheme's equity holdings. Note that when equities have turbulence or a correction, the returns may be dragged down; yet, during equities' heydays, the returns may amplify.
2. Aggressive hybrid — An aggressive hybrid fund must invest 65-80% of its total assets in equity and equity-related products, with the remaining 20-35% in debt instruments. The portfolio is dubbed "aggressive hybrid" because it is heavily weighted toward stocks, which can span market capitalizations (large-cap, mid-cap, and small-cap) and sectors.
Who should make an investment?
Consider an aggressive hybrid fund if you have enough time to reach your goals and are willing to have a somewhat larger exposure to stocks with a higher risk appetite to withstand interim volatility. When investing in aggressive hybrid funds, make sure you have a medium to long-term investment time horizon since when equities experience volatility or a bad patch, the risk of capital erosion cannot be overlooked.
3. Dynamic Asset Allocation Fund or Balanced Advantage Fund — This type of fund manages the allocation to equity and debt in real time. There are no restrictions on the amount of stock or debt that can be held. Depending on where and how the fund management team foresees the possibilities and dangers playing out in the respective asset classes, a Dynamic Asset Allocation Fund may go from 100% equities (across market capitalizations and sectors) to 100% debt (over maturity profiles and credit ratings).
However, each fund in the dynamic asset allocation or balanced advantage fund category is unique, as the majority of funds use a model-driven method to determine equity and debt allocation. Each fund's in-house model is unique, since it may use a variety of factors such as market valuations measures, momentum metrics, or both, as well as a few macro indicators when deciding on asset allocation.
Furthermore, the ranges for equity allocation fluctuate from fund to fund, thus the equity allocation may differ to some amount from one fund to the next. In general, a model's goal is to minimise equity exposure when market valuations are high and raise equity exposure when market valuations are low, while removing some human bias. When the equity market valuation appears to be high, most of these funds employ a hedging approach by taking equity derivative bets.
Who should make an investment?
A Dynamic Asset Allocation Fund or a Balanced Advantage Fund is for investors who want to manage their asset allocation dynamically and have their portfolio rebalanced automatically based on pre-defined parameters. Because the equity share might range from 0% to 100%, the investor must be prepared to withstand any short-term volatility while maintaining a medium to long-term investing time horizon.
4. Multi-asset Allocation Fund — A multi-asset allocation fund invests in at least three asset classes, with a minimum allocation of 10% in each asset class. These funds often have exposure to gold or other commodities, in addition to equity and debt. Gold is regarded as a safe haven asset and a good portfolio diversifier.
The fund manager considers a variety of variables when deciding how much to invest in each asset class, and the allocation to these asset classes is reviewed on a regular basis, so it is dynamic in certain ways. A Multi-asset Allocation Fund that takes this method safeguards against downside risk by investing across asset classes. Keep in mind that not all asset classes move in the same direction at the same time. During particular eras, some may do better or worse than others.
Who should make an investment?
Consider multi-asset allocation funds with a three-year or longer investment horizon if you want to diversify your portfolio by acquiring exposure to a range of asset classes. The major goal of these funds is to deliver long-term capital appreciation to investors.
5. Equity Savings Fund – This hybrid fund is required to invest at least 65 percent in equity and equity-related products and 10 percent in debt instruments. Simply put, an equity savings fund invests in equity, debt, and arbitrage opportunities in order to create profits. The arbitrage technique in this scenario is to buy assets in the cash market and sell them in the futures market. Essentially, the fund management seeks to profit from inefficiencies in the equities market's cash and derivatives components. As a result, the fund's overall stock exposure is partially hedged, lowering volatility as compared to an aggressive hybrid fund with wholly unhedged equity exposure.
Who should make an investment?
Because the fund's portfolio is heavily weighted toward equities, both hedged and unhedged positions, investors may be exposed to equities-related risks. The ideal time horizon for investing in an Equity Savings Fund is 3 to 5 years.
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