Mutual Funds: What makes hybrid funds so attractive?

July 02, 2021 3:30 AM

A hybrid fund invests in multiple asset classes, enabling an investor to divide risk as per his liking within a single fund

An equity fund invests in stocks of listed companies while a debt fund invests in treasury bills, corporate bonds and other fixed income securities.An equity fund invests in stocks of listed companies while a debt fund invests in treasury bills, corporate bonds and other fixed income securities.

By Raghav Iyengar

If we were to take a roll-call of the new world order, the word ‘hybrid’ is likely to appear more than once. Hybrid car, hybrid education and now even a hybrid working style! The reason why hybrid models are gaining popularity is fairly simple—it allows us to cherry-pick the best traits from each existing option and create a value proposition that is inarguably the best. And that precisely is the thought process behind mutual fund houses offering a ‘hybrid fund’.

An equity fund invests in stocks of listed companies while a debt fund invests in treasury bills, corporate bonds and other fixed income securities. The risk-reward is directly proportional in both funds, which means equity funds are higher on risk and return and vice versa for debt funds.

Meanwhile, a hybrid fund takes the best of both and invests in multiple asset classes, enabling an investor to divide risk as per his or her liking within a single fund. This includes investments in not just equity and debt, but also gold and international equity in some cases. The fund straddles seamlessly between these asset classes based on their price movement and focuses on delivering better risk adjusted returns to the investors.

Not surprisingly, hybrid funds have earned the moniker of being ‘evergreen allocations’, and are gaining strong traction globally. In India too, the hybrid fund category has been witnessing increasing interest from investors. Since March 2020, the Assets Under Management (AUM) of hybrid funds have risen by 31% to Rs 3.42 lakh in March 2021. This amounts to 11% share of the total AUM of the mutual fund industry (Rs 31.42 lakh crore).

Here are the four top reasons behind the allure of hybrid funds:

One-stop solution
A key benefit of a hybrid fund is the underlying construct of the portfolio. Since hybrid funds invest in a mix of equity, debt and more—depending upon the investment objective—it allows an investor to get exposure to multiple asset classes within one fund Strength in diversification

Asset allocation principle helps in creating sustainable wealth over the long-term. This is because there is minimal or no correlation between the performance of different asset classes. Therefore, a combination of multiple assets tends to give returns that mirror the equity returns and at times, even outperform them.

Flexible risk moderation
Based on the risk appetite, investors can decide the percentage of allocation between different asset classes in a hybrid fund.

For an investor’s convenience, hybrid funds have been categorised into four main types—conservative hybrid, aggressive hybrid, dynamic equity and equity saver. Conservative funds have maximum exposure in fixed income instruments whereas aggressive funds have maximum exposure to equity instruments. An investor can choose the investment style that best suits his financial goals.

Rebalancing proposition
The diversified nature of the fund minimises the possibility of a higher downside due to a single asset class. Investors can save the time and effort required in tracking markets and managing their asset allocation as the fund manager in hybrid funds automatically rebalances the various asset classes within the portfolio. So even if one asset class is affected, the other can help in generating returns.

Given the dynamic nature of the stock markets, a hybrid style of investment is well-suited to insulate investors and provide a cushion against sudden volatility in the markets.

As with any investment, for hybrid funds too—the longer the time horizon, the better chance to create wealth. But typically, a medium-to-long term horizon of 3-5 years is suitable for investors looking to invest in a hybrid fund.

It would bode well for investors to thoroughly assess their medium to long term financial needs and accordingly choose the right hybrid fund to meet them.

The writer is CBO, Axis AMC

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