With increasing volatility in the markets, balanced advantage funds provide a flexible approach to investing. These funds help to maintain the right balance between risk and reward to offer better risk adjusted returns in the long run.

In balanced advantage funds or dynamic asset allocation funds, fund managers shift the allocation between equities, bonds, and arbitrage opportunities based on the market trends, economic indicators, and changing risk levels. These funds are designed to manage risk more effectively compared to static allocation strategies and autotunes the portfolio under all market cycles.

In fact, fund performance shows that Quant Dynamic Asset Allocation Fund and ICICI Prudential Balanced Advantage Fund are the top performers in the last one year with 56.6% and 38.4%, respectively. LIC Mutual Fund Balanced Advantage Fund and PGIM India Balanced Advantage Fund were the laggards at 13.2 and 13.8%, respectively.

Reduce high risk exposure

In the current situation, a static allocation portfolio heavily weighted in equities would suffer losses. In contrast, a dynamic asset allocation fund will reduce the equity exposure and increase holdings in bonds or cash to mitigate the impact of market volatility. When the market recovers, the fund can shift back to equities to capture the rebound.

For instance, during the drawdown period of Covid-19, Nifty 50 declined by 46% from Jan 2020 to March 2020, whereas even the worst performing fund in the dynamic asset allocation fund category declined by 33% and the best performing fund by 13%, respectively for the same period.

Losing less during market volatility becomes equally important for long-term wealth creation. Nirav Karkera, head, Research, Fisdom, says when market volatility increases, fund managers can reduce exposure to high-risk assets and increase holdings in less volatile investments like bonds or arbitrage opportunities. “This proactive risk management helps protect the portfolio during turbulent times.”

Similarly, Shaily Gang, head, Products, Tata Asset Management, says during phases of market volatility or at points where valuations have run up, investors can increase exposure to balanced advantage funds. “Tactical allocation calls under a dynamic asset allocation structure of hybrid mutual funds makes cash available from within the portfolio at the right time when not many investors on their own shell our cash towards correcting asset classes,” says Gang.

Dynamic allocation

If equities are overvalued, managers might reduce equity exposure and allocate more to bonds or alternative investments. Also, if certain assets appear undervalued, managers might increase exposure to these assets expecting mean reversion. Similarly, if interest rates are expected to fall, fund managers may increase exposure to long-term bonds (which are sensitive to rate changes) and decrease exposure to shorter-duration bonds or equities.

Selecting the right fund

Investors should carefully assess a fund’s performance track record across different market cycles to understand its resilience and adaptability.  The expertise and experience of the fund managers play a significant role in the fund’s success. An important aspect before selecting a balanced advantage fund is to look at the rebalancing strategy. In fact, frequent rebalancing can increase the transaction costs while diminishing the returns over time.

Mohit Khanna, fund manager, Purnartha One Strategy, a Sebi registered portfolio management services, says investors must look at the optimal asset-class exposure or allocation to a particular asset class. “The idea is to have optimal risk-reward . Higher allocation to debt may result in below-inflation returns,” he says.