Choose Balanced Advantage Fund that changes equity-debt mix on time

But, these funds can lose money during severe market corrections

Investors keen to invest in stocks but worried about short-term volatility should consider investing in a Balanced Advantage Fund (BAF), also known as Dynamic Asset Allocation (DAA) Fund. The New Fund Offer (NFO) of Bajaj FinServ Balanced Advantage Fund is on currently, while the SAMCO Dynamic Asset Allocation Fund will begin shortly.

According to the Association of Mutual Funds in India (Amfi) data), 29 funds together have assets under management (AUM) of Rs 2.12 lakh crore in this category.

 

A product for volatile times

These funds are well suited to handle higher volatility. “The world is going through uncertain times with two big regional wars. Besides, the Indian equity market is trading at a significant premium to its Asian and emerging market peers. Such periods lead to volatility. This is a good time to allocate to hybrid funds that are truly dynamic, which can protect the downside better than pure equity funds,” says Umeshkumar Mehta, chief investment officer (CIO), SAMCO Mutual Fund.

Nimesh Chandan, CIO, Bajaj FinServ Asset Management Company, on the other hand, says investors should take exposure to these funds as they are all-weather products. “At present, we have opportunities in equities, as well as in fixed income. A BAF will use volatility to generate returns on the equity side. On the fixed-income side, these are attractive levels to lock-in to enjoy the benefits when the interest-rate cycle turns downward,” he says.

 

A healthy mix

A BAF invests in a mix of bonds and stocks based on the relative attractiveness of these asset classes. Fund houses put in place an asset allocation framework that determines how much to allocate to stocks and to bonds. The gross equity exposure is always maintained at 65 per cent by using spot-futures arbitrage.

This mix ensures that investors get to participate in equity markets while the downside is protected through debt.

“By its nature, these two asset classes (equity and debt) usually have a negative correlation, that is, they move in opposite directions in terms of returns, thus increasing diversification for an investor’s portfolio. Other benefits include lower volatility and relatively consistent returns,” says Mehta.

The 65 per cent equity exposure ensures equity taxation of these schemes.

 

Downside risk exists

Just because these funds aim to contain the downside, there is no guarantee they will provide foolproof capital protection. BAFs can lose money during severe market corrections.

 “With a portfolio mix of equity and debt, these funds carry both market risk and interest-rate risk. Changes in interest rates can impact the performance of debt securities, affecting the fund’s overall return,” says Anil Rego, founder and chief executive officer, Right Horizons.

 

Varied strategies

These funds can vary from one another in the strategy they follow. “BAFs use different asset allocation strategies such as counter-cyclical and procyclical to manage the equity and debt allocation. Investors should understand the asset allocation strategy of the fund and ensure that it aligns with their investment objectives,” says Rego.

In the counter-cyclical approach, the fund house is driven by valuations: equity exposure is cut when stocks turn expensive and is increased when valuations are attractive. In the pro-cyclical approach, more is invested in equities when the market is trending upward, and vice-versa.

“Before investing, look at the historical asset allocation chart to check if the fund was able to change its equity-debt mix in a timely and dynamic manner. Investors should also look for a fund that has offered consistent returns and low volatility historically,” says Mehta.

 

What should you do?

While investing, set your return expectations right and invest with a minimum five-year timeframe. Both conservative investors and new investors, who tend to worry about market volatility, should consider BAF.

“A conservative investor with a long-term investment horizon will find BAF a useful addition to the portfolio. An investment period of at least three to five years is required for any equity or asset allocation strategy to yield the optimum outcome,” says Chandan.

While systematic investment remains the favoured approach, this is a category where you can invest lump sum money as well.