The Mutual Fund Show | Hybrid Or Balanced Advantage Funds: How To Hedge Equity Better?

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The Mutual Fund Show | Hybrid Or Balanced Advantage Funds: How To Hedge Equity Better?

Mutual fund investors often question whether to be cautious about equity markets and time an exit when it’s they're at all-time highs or stay invested for future benefits.

“I think the key thing here is to be in the market at all points of time,” said Raghav Iyengar, chief business officer at Axis Asset Management Co. Instead of timing the market, investors can make use of hybrid funds that invest in various asset classes with low correlation, diversifying in the truest sense, he said on BloombergQuint’s weekly special series The Mutual Fund Show.

The advantages of multi-asset investing, according to Iyengar, are multifold. It’s an all-weather formula as when one asset class underperforms, others do well, balancing the overall performance. Single-asset investing, on the other hand, would be accompanied by higher volatility, unlike multi-asset investing.

Citing a 20-year history, Iyengar said the triple asset strategy—equity, bonds and gold—outperformed all the three individual asset returns.

The Mutual Fund Show | Hybrid Or Balanced Advantage Funds: How To Hedge Equity Better?

Kshitiz Mahajan, co-founder of Complete Circle Consultants, acknowledged benefits of the multi-asset strategy, but he favoured balanced advantage funds over hybrid funds. One of the reasons, he said, is because balanced advantage funds are more tax efficient vis-à-vis multi-asset funds.

Mahajan recommended certain balanced advantage funds, in no particular order:

  • Edelweiss Balanced Advantage Fund.

  • ICICI Prudential Balanced Advantage Fund.

  • Kotak Balanced Advantage Fund.

  • HDFC Balanced Advantage Fund.

  • Aditya Birla SunLife Balanced Advantage Fund.

  • Motilal Oswal Dynamic Fund.

Also read: The Mutual Fund Show: Why Indian Investors Need To Be Prepared For Good News From U.S.

Watch the full interview here:

Here are the edited excerpts from the interview:

Raghav, I wonder if we were in a normal world wherein you guys were going out and talking to people in various cities and doing events, a lot of people would be asking you, “Abhi hum paisa kyu daale, kyunki market toh itna upar hai” (why should we put in money now, when the market is so high) and frankly, it is hot. So, what’s your sense? Would you guys believe that it is time to judiciously approach the quantum of equity investing that a person does for mutual funds?

RAGHAV IYENGAR: That is a lovely question, and it always gets asked at every high point of the market, whenever the market was at 5,000, 10,000 and 20,000 and of now course, it is at 50,000. My view is, and we did a small exercise and I can share that with you separately so that you can tell your viewers about it, that if you pick the 10 best times to invest, which is the 10 days when the market really fell, and you pick the 10 worst days, which is when the market really went up, and you compare that to a period of sustained investment. When I was invested in a sustained way, then I actually made the most returns.

I think the key thing here is to be in the market at all points of time.

Of course, the markets are at new levels, investors are a little stressed about coming in. If they're not comfortable about coming directly into equity, maybe equity funds, maybe a slightly lower risk funds, maybe hybrid funds could be an answer for that and that's why over the last two-three months if you see the data which comes out of AMFI, the hybrid category has actually shown some stupendous growth.

Hybrids are in some sense proving to be a good option especially for first-time investors if they want to come in and invest in the market at this time.

So, tell us a bit about hybrid funds. What are these funds and why would you believe that investors who are looking at the markets at the current juncture make use of them?

RAGHAV IYENGAR: So, hybrids are in some sense a fund which has a combination of various classes of assets—the various investing classes that are available today are equity, fixed income, gold, now of course there’s international equities and REITs. So, if a fund invests in a combination of these or a couple of these, they are essentially called hybrid funds. Now, typically hybrid funds come from the fundamental principle of asset allocation. So, asset allocation if you manage to keep your assets, or your investments in different buckets and especially if those assets tend to move differently. then your overall investment experience will be far better. That’s the underlining point and most investors tend to get through this very well. They tend to either be invested fully in an asset class. Currently I’m seeing a lot of people are rushing towards equity. We saw times, maybe seven, eight years ago when people were rushing towards gold when gold was doing really well. So, the ideal case is to have a set of investments in various and different buckets. Hybrid funds allow you to do that in an auto way. So, instead of you going out and trying to create your own hybrid category, so it’s not a bad thing, I mean if you have the time and obviously the expertise, it’s something that can be done but if you can’t do it, hybrid funds offer you that vehicle.

Within hybrid of course you have a whole set of funds. There are conservative hybrid funds which put more money into fixed income instruments, you have aggressive hybrid funds which put money more into equity instruments, you have multi-asset funds which put money into a mix of debt, equity and gold. It gives you exposure to three or four asset classes. It’s a fairly well-developed category and it is in some sense the go-to category for a new investors today.

If somebody comes and says I have never invested in mutual fund should I be putting money, it is at a slightly lower risk spectrum as compared to say a pure equity fund. The worry that most people have today is if I put money today and market falls what happens, I lose principal. That tends to get slightly better if you are able to put money into a hybrid category. In fact, the Indian mutual fund industry in some sense started with this type of a fund. Most people would have forgotten but there was a scheme a very long time back called the US-64 which essentially was a hybrid fund and it had a mix of debt, equity and other investments and that was at one point of time the first fund that many Indian investors including people like our parents would have possibly put money into, it is a very old fund now. Internationally, a hybrid fund is also a great asset class. So, today it has a pretty sizable following. The mutual fund industry now has about 33 lakh odd crore of assets we manage and almost about 11%, that is in excess of about three lakh crore, is now sitting in hybrid funds today. It's a good category to look at especially when market valuations are high, especially for first time investors or in some sense for people like me who are lazy investors, who don't the time or the bandwidth to keep trying and move assets around between equity and debt. It’s sort of a like a, if I may use the word, a bit like ‘fill it, shut it, forget it’ kind of an investment. The more asset classes you put in like a multi-asset, the better is your profile as it improves a little more.

I am presuming that you’re making a case for hybrid fund categories. Would you believe that there are enough options available and that particular subsets within this hybrid category would be better suited for first-time investors or investors who don’t have the time?

RAGHAV IYENGAR: I think aggressive is an interesting case, obviously it’s an interesting asset class and it is meant for slightly higher risk investors. Somebody came and told me that I have maybe just a two-three-year timeframe, should I put in aggressive hybrid? I might not say yes to that, because I think you need to give those investments time because they are predominantly equity investments. The other category which doesn’t get talked about too much, but I think is very interesting is multi-asset funds and those are nothing but equity, debt, plus a bit of gold. I think as and when we get more liquidity in other asset classes, you will see newer and newer asset classes coming there and that’s the beauty. If you look at it, this is the fund that I was telling you about—triple asset. Just look at the way stocks, bonds and gold have done. So, if you’re an investor who started off in 2016, you would have made 4% returns and that’s a concern that most people have today. Markets are at 52,000, if I come in now and the market doesn’t give me a return what happens? Look what happens to the second year, I mean that was the year in 2017 where we didn’t see too much equity come in but equity markets did very well. Just look at the extreme right column. If you see largely a triple asset combination, and this is nothing but a very simple, basic 65% equity, 20% debt and 15% gold kind of a combination number that has been given, just look at those returns. So, these are pretty decent and more importantly, they tend to mirror your equity returns and, in some cases, do much better than them. If you see there will be cases and no there is more data available and when equity market falls these funds tend to do much better because obviously, they have a much lower allocation to equity as compared to a pure equity fund. The other thing that you should think about is this category also—Triple Advantage Funds or what I call multi-asset funds, they are another category that investors should think about.

Raghav, would the quantum of correlation that these different asset classes have among themselves also make it obvious to do a hybrid or a balance advantage or a multi-asset fund?

RAGHAV IYENGAR: Yes, that’s true. In fact, that’s the beauty of asset allocation that you need to sort of invest in asset classes which are reasonably divergent in the way they behave. In most of these three asset classes we have done some work around equity, gold and debt, like I told you in triple advantage, they are pretty much divergent from each other. So, when equity does very well, you will find that gold typically does not do well and vice versa. That’s on the slide in front of you, if you see, 8% is the amount of correlation that it has to equity. So, if you see between gold and equity, there is absolutely no correlation and between debt and equity there’s very little correlation. So, if you have a combination of these three assets it may not give you the best returns. So, if people are really looking at and saying that I want to beat every other index under the sun that’s not the case. But yes, these categories really work during periods of market fall and more importantly, market volatility and more importantly when markets are just about flat and doing really nothing. That’s the time that these strategies rarely do well.

Also read: The Mutual Fund Show | Static Or Dynamic Asset Allocation: What Works Better?

Kshitiz, do you differ with Raghav? Do you have a view on what’s the optimum way to approach markets if somebody wants some sort of diversification but not an equity fund?

KSHITIZ MAHAJAN: So, my take is almost on the same line that yes, somebody who wants to participate at these levels, hybrid equity funds are the right way of looking at it. The only place where I differ from Raghav is that I look at that Balanced Advantage Funds would be a better bet now. The reason is, one, they are more tax efficient vis-à-vis multi-asset funds, second, right now, the biggest fear is that if things will look better in the U.S. and you will have an unwinding of money coming in India that can lead to a market fall. So, when things will be looking better in the U.S., I think the gold will tend to not do that well because gold prices are not decided by what is happening in India, it’s a global commodity. So, multi-asset funds are great funds to be a part of in the portfolio, but I will like to say that I will go with Balanced Advantage Funds wherein client as said by Raghav will adjust things at their end but can lead a fund manager depending on the market condition to decide what kind of equity or debt allocation should be there. So, there are different types of Balanced Advantage Funds which are available which work on various parameters. A few of them work on price to book value, which is ICICI backed. Three of them work on price to earnings, and then you have Motilal Oswal and Edelweiss which work on a different model and Motilal Oswal has it’s own MOVI index and Edelweiss’ Balanced Advantage Fund works on volatility, as well as your short-term as well as long-term trends. So, a Balanced Advantage Fund, what it does is, depending on the approvals of various AMCs, normally it keeps equity ratio between 30% and 80%. So, as on date, you see most of the Balanced Advantage Funds have an equity allocation of 39-40%, if you take an exception for two Balanced Advantage Funds, one is HDFC Balanced Advantage Fund, which is run like a Balanced Fund only. So, I must say that it’s like a balanced advantage fund, it has 65-70% on an average, as equity allocation. Second is your Edelweiss Balanced Advantage Fund which has an equity allocation of 68% but it’s a daily balancing Balanced Advantage Fund as it balances equity and debt very fast. So, I think it gives a lot of comfort to people let’s say somebody parking in Rs 100 today and picks up a couple of Balanced Advantage Funds, they can have as on day 35-40% equity and balance in arbitrage and debt. As in when markets builds opportunity, the fall which is coming in into the market keeps on increasing the equity allocation. That’s how Balanced Advantage Funds work and if we actually see in the last one month, three months to six months, they are underperforming equity big time because yes, markets are up and hence, the equity allocation is less. But at these levels, I will say that one can look at Balanced Advantage Funds as an option.

What is the advantage that a Balanced Advantage Fund would have? You mentioned that an equity-hybrid fund would have tax advantages among other things. Can you just very briefly enumerate that?

KSHITIZ MAHAJAN: The first is that asset allocation fund will have a fixed income taxation which is long-term taxation after three years with 20% indexation benefit. That’s the taxation on the multi-asset or asset location funds. On Balanced Advantage Funds, it is treated like an equity mutual fund or as an equity asset. So, you have a long-term capital gain as 10%, over and above one year. Number one is this. Second is when it comes to asset allocation, where you do asset allocation between equity and fixed income, let’s say 60-40 or 30-70, whatever percentage, you don’t have to do it yourself.

If you are a lazy investor you don’t want to come out of equity allocation, then balanced funds and Balanced Advantage Funds at these times are the right approach wherein you don’t have to do it yourself, the fund manager will do it on your behalf depending on market conditions.

Raghav, since your belief is that hybrid funds are great funds, is there a product or a set of products in Axis stable that you guys have as well in this category? Would you recommend or you believe that they might be better suited than a pure-play equity fund from the Axis stable as well?

RAGHAV IYENGAR: I think all Axis funds have an underlying theme under our schemes which is essentially focus on quality, that obviously continues into the hybrid space as well. What we do have in the Axis stable is of course, dynamic equity which is in the BAF category, we have conservative hybrids, we have the aggressive hybrid and of course we have another interesting fund which is called the equity saver. So, essentially we have all the four categories which are available under this particular category. Now, it’s exactly what I said. If I had the time and the expertise to sort of move money around and I’m comfortable to do that on my own, I’m very happy to put money into equities. What we have also done at Axis is, introduce an element of international equities into some of our portfolios and these are largely into themes like ESG, things like global innovation, where the stocks or those opportunities may not be available in the listed space in India. So that’s another way of diversifying in some sense your assets because as I said, the more asset classes you put in and if they have lower degrees of correlation that obviously leads to a better investment outcome. So that’s one way of doing it. The other way of course is to do it the way investors like me do which is just like ‘fill it, shut it, forget it’. We have done very well on market falls. So, we have a similar model approach, we have a model that looks at price, we have a model that looks at volatility and we have a model that looks at trends and all these three are put together. In the last year, we did very well when the markets fell. In the catch up, these funds are essentially meant to help you during market falls and they are largely seen to be lower risk instruments. Again, I would just put it that it’s based on the investor risk profile, if the investor has the ability to look at assets on his own, if he’s got competent advice or if he’s well read, I think obviously he can create his own asset allocation diversification by investing into a basket of equity and a basket of fixed income. If he feels that I would rather leave it to the fund manager, then Axis has all the other four options which are available for him, depending on what time horizon he wants to do. So, of course, the risk tolerance and the time horizon are the two things. I think that should be the influencing factors in deciding which scheme to put it in the hybrid stable at Axis.

Kshitiz, can you talk about the funds in the BAF category that you would recommend?

KSHITIZ MAHAJAN: I don’t have any, one single fund as favourite but there are three-four good options which are available. As I said, one is your Kotak Balanced Advantage Fund which is one of the good funds that one should look at. Now, one needs to understand, people who are watching this show, that these funds balance between equity and debt on certain parameters. So, this fund-Kotak balances on the basis of price to earnings—that is, what is the price of a stock divided by what is the earning per stock, which is one of the parameters that this fund uses, and it does it on a monthly basis. That’s what it does. Then secondly, your Edelweiss Balanced Advantage Fund which I spoke about, it works on the function of your trend ratio which is short-term and long-term trends and your volatility ratio. So, they can move between 30% and 80% and they have given 17% to each and every ratio. They have also as rightly said by Raghav, in the Axis fund, been able to maneuver the last fall which happened in the first wave of Covid because the trend was showing that they should move out and they have moved out of equity fast and reduced the equity allocation. Third fund which is an ever-green fund which is from Raghav’s ex-company, the ICICI Balanced Advantage Fund. All credit to ICICI BAF, they have actually set the tone right for the industry to look at BAF as a category, it’s a very old fund and it works on the function of price to book value. So, book value is the total assets, which is total assets minus liabilities. So that’s come out to be a net asset what a company has. It works on the price to book value model and averages the portfolio on a daily basis. I would also say that one should look at a couple of funds not more than that and if somebody wants to really add, then they can look at the Motilal Oswal Dynamic Fund. This is very interesting, it works on an in-house index which is called MOVI- Motilal Oswal Valuation Index. They work on the parameters of price to earnings, price to book value and dividend yield. So, they work on all three parameters, and they have divided all the parameters in a one-third proportion each. So, depending on that, they divide between equity allocation and fixed income allocation. For the benefit of everyone because all these funds qualify as equity mutual fund, and they have an equity taxation benefit, if you see an equity allocation at 37-38%, balance has been done, 65% by arbitrage, which qualifies as an equity category. So, as a fund at the fund level, it is subjected to equity taxation only, but yes, your pure equity exposure is not more than 30-39% across these funds. Edelweiss yes, right now they have 67% allocation because as per their trend, it’s not showing that right now, they should further decrease in equity allocation but all funds have been consistent in their yearly returns as well as their five-year track record also.

Kshitiz, you believe that mid-cap funds might be a good category to invest in currently, why?

KSHITIZ MAHAJAN: If you actually ask me somebody who’s looking to invest at these levels, let’s say you want to participate tomorrow morning in the market. The best way is to stagger the investment, irrespective of whether you’re a new investor, you are an existing investor or you’re an aggressive investor. One should look at, at least four months of weekly STP in mutual funds, stocks or whatever investment vehicle you’re participating through whether it is PMS because we added a high valuation. I see that mid-cap funds, which normally people see or it is a mid-cap company, but just for the information and clarification of all, all these mid-cap companies are actually the Next Nifty 50 or maybe companies which are at 30,000-35,000-crore market cap. So, they are actually at a discount to large-cap and small-cap by 25 to 30%, as on date. This is really interesting. SEBI in 2018 has defined the category, they said, 100 and post companies by market cap in India to up to 250, then the company is in the mid-cap basket and one needs to have 65% portfolio at least in the mid-cap basket to help you qualify as a mid-cap fund. Now, these funds on average have a market cap of an excess of 30,000 crore. So, they are actually, you can say, largely on the side of the mid-cap funds. So, one can look at the mid-cap basket to invest in and the right way to invest is, if you have Rs 100, start participating Rs 6 every week for next 16 to 17 weeks. That’s the right way to participate. One can make out from the chart, this chart by Sundaram Mutual Fund shows you that mid-cap index is at a discount to large-cap and small-cap. So, I will go with mid-cap allocation right now, people who are already investing into it. For a new investor, obviously, the balanced fund category fund is the right way to look at it.

Raghav, do you have any thoughts here?

RAGHAV IYENGAR: No, it’s every man to his risk profile. I agree with Kshitiz, I think I have a fair amount of money in Axis Mid-Cap Fund and I have built that exactly like the way Kshitiz has done. I’ve been putting money every month, irrespective of where the index is, where the market is, it just goes automatically. So, that comes back to my first point here I think the time in the market is much more important than timing the market. So that’s where I am.

Kshitiz, you want to wrap up with the name of the funds that you believe in the mid-cap category which could be invested into?

KSHITIZ MAHAJAN: Axis Mid-Cap Fund is one of my favourite funds and it’s been consistent. As I said that I will not look at a one-year performance for a fund, I will look at a consistent rolling performance, year-on-year performance and they’ve been very consistent in their approach. So, one should look at one, the Axis Mid-Cap Fund, the second is the DSP Mid-Cap Fund. DSP mid-cap again is a very good fund. Somebody has done a fantastic job while managing the DSP fund. The Kotak Emerging Equity Fund is again, very consistent and very good in terms of its performance. Then there’s HDFC mid-cap and then we have PGIM mid-cap, and then we have the BNP Mid-Cap Fund. So, all these six mid-cap funds have been doing really well. My last submission here is that people who are talking about the markets going up, they should look at their equity and debt allocation right now. If they are very high on equity allocation, let’s say they have decided on 60-40 and are right now on 25-75. Then they should trim it a bit on the equity side, and they can park it in the balanced advantage fund. Those who are at 5-7% above from their equity allocation, they can just keep on holding the allocation and for the future allocation or the further allocation, they can stagger it over next three to four months’ time. Now, my liking or I like mid-cap as a basket, they can look at what type of portfolio depending on their risk profile they want to go with. Third, people who are underweight in equity, still, please don’t go all out and buy in equity mutual fund. Please look at staggering it again, over the next three to four months. That’s the right strategy to build your portfolio.

Also read: The Mutual Fund Show: Two Experts Suggest How To Look At Small-Cap Funds

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