When
market is volatile and investment period is short or medium term (i.e. 2-3
years) the choice of investments need to be very carefully selected. The reason
being if we invest in pure debt funds it may not give very high returns and for
less than three year period the capital gain is directly added to the investor’s
income making it unattractive for high tax bracket investors, on the other hand
2-3 years period is a too short period for full equity investments. For this
period even hybrid funds (balanced funds) which have min 65% equity also
reflect same kind of risk return profile as of equity funds.
So what could be the other option in this kind of scenario?
The
answer could be dynamic equity asset allocation funds also called as balanced
advantage funds. These funds manage the equity and debt part more dynamically through
certain model based portfolio allocation by which they try to give better risk-adjusted
returns using predefined formula.
What are the USP of these schemes?
The
basic USP of dynamic allocation funds is the active portfolio management between
equity and fixed income securities, depending on the market conditions.
These
funds shift more money into bonds when market valuations look expensive, and do
the reverse when valuations are cheap. The funds typically keep equity portion vary
between 30% - 80%, although they can go beyond these limits also.
Normally
these schemes use valuation metrics to determine the level of exposure to
equities at any given point. The funds uses one or multiple parameters to
decide the equity exposure Like (P/BV) Book Value Model, P/E (Price to
Earnings) model, Dividend yield of the index etc. Some funds also uses
technical analysis like trend lines etc. along with fundamental ratios to fine
tune there equity exposure.
By
using model based approach, the discretion in the hands of Funds manager is
limited and more rational in these funds.
The
basic objective of all these type of schemes is to buy low and sell high,
helping the investor ride out the volatility over the long term.
These
funds also take arbitrage positions through equity derivatives. Arbitrage
exposure allows them to keep the actual equity exposure low in a heated market,
still maintaining the effective equity allocation above 65% to reap tax
benefits, which is applicable to equity and equity related schemes.
This
means the long term capital gains after one year from the investment date is
exempted (upto Rs. 1 lakh) from LTCG and taxed at the rate 10% beyond that
amount.
What are the advantages of these Funds?
These
funds are more flexible in asset allocation which helps the investor to make
the most in high market volatility situation.
Currently
the valuations are high and earnings are uncertain so it makes more sense to
invest in model based portfolio which reduces human interventions and emotions.
And the dis-advantages are
These
funds may not give higher returns when equity market is riding high. They will
generally under perform in rising market situations.
Every
fund/schemes has its own unique model so the returns/output will vary scheme to
scheme. This makes it little confusing and difficult for the investor to select
the right fund.
Dynamic Asset allocation funds are a better choice
for managing risk for most investors. In these schemes the model based asset
allocations helps in riding the volatility of equity market with more rational
and balanced approach. There are other balanced funds categories also where the
equity asset allocation is predefined as per the category like—65-80% for
aggressive hybrid funds, 40-60% for balanced hybrid funds, and 10-25% for
conservative hybrid schemes; however they are not managed very actively. Dynamic funds allow for higher wealth creation
in the long run, while limiting volatility to some extent. These are better option for conservative
investors even for longer time frame, whereas investors with a moderate/higher
risk profile can go for hybrid equity funds if their time horizon is medium to
long term.
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