Market regulator Sebi has identified seven categories of hybrid funds, which include Balanced Hybrids, Arbitrage Funds, Equity Savings Funds, Conservative Hybrid Funds, Aggressive Hybrid Funds, multi asset class funds and dynamic asset allocation funds. Today we will compare multi-asset allocation funds and aggresive hybrid funds to understand which is the most ideal investment choice.
Multi-Asset Allocation funds were not too common in India but they are slowly becoming a popular investment avenue and combine at least three asset classes into a single fund. For example, equity, debt and gold is a classic combination of a multi-asset allocation fund with predominant focus on either of them. The only condition is that each of these should be at least 10%. Point to note: Gold, equity and debt tend to be uncorrelated largely, which helps in risk diversification.
Some popular multi asset allocation funds are ICICI Prudential Multi Asset Fund, HDFC Multi Asset Fund, Nippon India Multi Asset Fund, SBI Multi Asset Allocation Fund, Quant Multi Asset Fund and UTI Multi Asset fund. The one year return on average of these funds ranges from 10-18 per cent.
Hybrid funds have two categories. Conservative and aggressive. Conservative Hybrid Funds would normally invest between 10% and 25% of the total corpus in equity and the balance 75-90% in debt. They are predominantly debt funds but just a small part of the corpus is in equities so that the additional alpha can be generated and on average have given 10-14 per cent a year.
Aggressive Hybrid Funds on the other hand will typically have between 65-80% in equity and the balance in debt. This small component provides some stability and balance to the predominant equity exposure. These funds tend to outperform conservative hybrid funds in terms of returns, although risk is also higher.
Multi-asset funds are less volatile compared to hybrid funds
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"Multi-asset funds are generally less volatile than hybrid funds with fixed allocation. This is because multi-asset funds invest in a variety of asset classes, such as equity, debt, gold, and real estate. This diversification helps to reduce the overall risk of the fund," said Adhil Shetty, CEO of BankBazaar.
For example, an aggressive hybrid fund that invests 65% in equity and 35% in debt will be more volatile than a multi-asset fund that invests 30% in equity, 30% in debt, 20% in gold, and 20% in real estate.
Why are multi-asset funds becoming increasingly popular and do they work in isolation?
Investors are becoming increasingly aware of the importance of asset allocation. Asset allocation is the process of dividing your investment portfolio into different asset classes, such as equities, bonds, and cash. This helps to reduce risk and improve your chances of achieving your financial goals.
"The benefit of a multi-asset fund is that it does the allocation on your behalf. So one fund gives you multi-asset exposure, which means you don’t have to buy those assets individually if the fund alone satisfies your investment needs. The other benefit is that rebalancing may be done within the fund, which means you don’t have the burden of buying, selling, and paying taxes on gains on isolated assets. The fund does it for you. You’re of course welcome to buy each asset individually if you’re a seasoned investor who'd like to take those decisions and bear the costs yourself," said Shetty.
But while multi-asset funds have been positioned as a “convenient, one-stop-shop” solution to investor needs, the current allocation to different asset classes within the multi-asset fund may or may not reflect your ideal asset allocation based on your future goals.
"For instance, you may have two goals – your retirement, which is 25 years away and buying a car, which is 2 years away. For the former, you would ideally want to invest into a high risk, high return fund like a small cap or a mid-cap fund in order to benefit the most from rupee cost averaging and compounding. For the latter, you would be better off sticking with an arbitrage fund that provides modest returns but assures the safety of your principal. For yet another goal, perhaps a debt-oriented hybrid fund would be most suitable. But by lumping all these objectives together and investing into a packaged solution like a multi asset fund, the overall “purpose” of investing gets muddled. This brings several behavioural biases to the fore and often ends up derailing your investing journey," said Aniruddha Bose, Chief Business Officer, FinEdge.
What's the tax treatment for these type of funds?
From a taxation perspective, both multi asset funds and aggressive hybrid funds are taxed as equity funds. "This means that if you hold them for less than a year, you will be taxed on any gains at the short-term capital gains rate (15%). If you hold them for more than a year, you will be taxed on any gains at the long-term capital gains rate (10%), with an exemption of up to Rs 1 lakh," said Vipul Jai,Partner, PSL Advocates & Solicitors.
For example if the long term gains are Rs 4,00,000 then the taxable LTCG will be Rs 3,00,000 (after accounting the exemption of Rs 1 lakh) and it would attract a tax rate of 10%, and the tax liability would come to Rs 30,000 along with applicable cess and surcharge, if any.
How do you decide between Hybrid funds and multi-asset funds?
"Hybrid Funds with a fixed equity allocation are more suitable that Multi Asset Funds when it comes to financial planning. With the former, you have a fair idea of the kind of risk/reward spectrum you are opting for and so you can plan for long term goals accordingly. With the latter, you expose yourself to a second layer of fund manager risk (the ability to predict which asset class will perform best in the future). This creates a “hit or miss” kind of scenario as is evidenced by the fact that the 1 year returns from this category have ranged from 3.64% to 19.13% as on date," said Bose.
The critical difference between multi-asset and hybrid funds is their asset allocation and diversification. Hybrid funds are less diverse and can have maximum exposure in equity up to 75%, with a minimum 25% allocation towards fixed-income instruments. Due to less equity exposure, multi-asset funds are often less volatile than aggressive hybrid funds.
" However, investors should not overemphasize reducing volatility because it is also an opportunity to beat retail inflation. The choice between an equity-heavy portfolio and a slightly more diverse one concerns an investor's overarching financial goal, investment strategy, and asset mix. In the accumulation phase, equity scores above all asset classes long-term. Thus, an aggressive hybrid fund would work better. As an investor's portfolio allocation gradually moves towards debt, they can switch to multi-asset funds," said Ajinkya Kulkarni, Co-Founder and CEO, Wint Wealth.
Long-term data has shows that hybrid funds have performed better in terms of giving higher returns to investors. However, since the majority of their allocation is towards equity, therefore the risk is also higher . In the last one year though allocation towards gold (about 10 percent of the assets) has helped MAFs deliver better returns than other hybrid fund categories.
"Gold has historically exhibited an inverse correlation with equities during bear markets and times of crisis. As a result, inclusion of gold in the portfolio helps in hedging risk, limiting the drawdown i.e. extent of fall in value from the peak, and accelerating the recovery, during times of market turbulence. MAFs have outpaced other hybrid categories with YoY growth of over 35% in net AUMs in the last financial year, while the overall AUMs of Hybrid schemes have been flat. This reflects the growing investor interest in this category vs other Hybrid funds," said Kartik L Jain, MD & CEO, Shriram Asset Management Company.
"Multi asset allocation funds offer you better diversification, lower volatility and a potential for long-term growth. However, they can be difficult to understand because they involve a number of asset classes each of them with its own unique behaviour. Hybrid funds can provide slightly higher returns but with slightly more volatile outcomes depending on the equity portion in these funds. Hybrid funds may also provide better taxation outcomes to investors who are short-term oriented. However, for investors with a horizon of more than 3 years, Multi asset allocation funds are a better bet irrespective of their tax structure," said Sahil Kapoor, Head of Products & Market Strategist, DSP Mutual Fund.
