Mutual fund investments have become one of the most popular modes through which investors can go for more wealth. Now, due to so many categories of mutual funds, it is really hard for the investors to invest their money in a specific mutual fund that may suit their financial goals, risk appetite, or investment horizon. Hybrid funds are a group of mutual funds wherein risk is balanced with returns.
Hybrid funds are blended to aggregate together the benefits coming from both equity as well as a debt investment under one umbrella which creates a diversified portfolio, answering various investor’s needs. This is that element, which renders hybrid funds all the more more attractive to such risk averse investors searching for an optimal kind of a risk reward ratio.
This article will give you a better insight into hybrid funds, like an overview, features, types, suitability, taxation, and many others. By the time you end up reading this guide, you will understand hybrid funds and whether they indeed suit your goals.
What are Hybrid Funds?
Essentially, hybrid funds are mutual funds that invest in more than one asset class or type, including equities and debt instruments such as bonds. The core thought behind hybrid funds is derived from the concept that it should be able to provide an element of risk versus return, which can present an opportunity for investment diversification to help raise proper levels of growth and stability.
A variation of equity and debt may prevail in hybrid funds. In general, the hybrid funds aim for moderate returns accompanied by some extent of controlled risks. Hybrid funds have become better resilient to volatility in the markets and market downtrends due to diversification among different assets.
Characteristics of Hybrid Funds
Hybrid funds have certain characteristics that have always attracted investors who prefer to invest in a mix of risk and return. Some of the key features of hybrid funds are as follows:
1. Diversification: Hybrid funds, because they can invest in equity and debt securities, by their very nature, have intrinsic diversification since they minimize risks. A portfolio with diversified portfolios is less likely to become a mercy of one asset class volatility.
2. Risk-Return Balance: These funds provide a balance between growth equities and stable, income-generating debt instruments. Therefore, hybrid funds are suitable for investors who would like to generate moderate returns with relatively lower risk than pure equity funds.
3. Flexibility on Asset Allocation: Hybrid funds allow flexibility in asset allocation wherein the fund manager exercises discretion based on market dynamics to alter proportions of equity/debt investments.
4. Right Option for Conservatives: Since hybrids maintain a proper level of equities and debentures, they do make a right option for risk-averse or conservative investors to avoid the high market volatility directly associated with pure equity type of investments.
5. Tax Efficiency: Based on percentage levels of equity, hybrid funds can also offer some tax advantages, which we will explain in this report further.
Classification of Hybrid Funds
Hybrid funds can be further divided into investment proportions of equity and debt. The most commonly found types are:
1. Balanced Hybrid Funds
Balanced hybrid funds have an equity investment of 40-60% and the balance in debt instruments. Such funds also strive for portfolio creation that is reasonably balanced between growth and income generating sources. Growth is provided by the equity part, while stability and steady income is through the debt part. Such a fund is apt for the medium-term investor who is on the lookout for reasonable risk and returns.
2. Aggressive Hybrid Funds
Aggressive hybrid funds normally have a higher equity exposure of 65-80% and the rest in debt. Hybrid funds promise greater returns with more risk involved. Such hybrid funds are advisable to those with high-risk capacity, who seek aggressive growth but require stability to an extent.
3. Conservative Hybrid Funds
As the name itself goes, conservative hybrid funds are for conservative investors. A higher percentage that is about 70-80% of the money is put into debt instruments and the remaining percentage into equities. Such a mix brings stability with low risk levels. Hence, such funds are meant for investors with low risk who are keener on capital preservation than high returns.
4. Dynamic Asset Allocation Funds
Dynamic asset allocation funds, or balanced advantage funds, dynamically allocate between equities and debt as the market dictates. Dynamic asset allocation funds continuously rebalance, and they are managed by a fund manager to reap opportunities offered by the market. This dynamic feature helps reduce the risk during the bearish period and captures greater returns during a bullish period. Target-date funds are best for those who don’t want any or little involvement in the direct management of the asset allocation process.
5. Target date funds
Target date funds are for a target date goal, like the retirement date for an investor, and asset allocation is rebalanced periodically relative to the desired target date for these funds. When the target date is more near, these funds become very conservative by having less equity with more debt as a proportion of the fund balance. These types of funds should be recommended for long-term investing with a determined or set-in-stone goal.
Who Should Invest in Hybrid Funds?
Hybrid funds are good for most investors because they offer all aspects together. The following is a list of some groups of persons who may be interested in hybrid funds:
1. Balanced Risk and Return: Hybrid funds offer equity as well as debt, thus serving to reduce risk while maintaining potential for growth. They are appropriate for investors seeking to invest in both asset classes but not sure about the right proportion.
2. Conservative investors in search of stability: The conservative hybrid fund is that investment seeking gullies from conservative investors with low risk appetite looking for shying off the volatility of pure equity funds. Stability comes with debt instruments as providing stable income and equities some growth.
3. Medium or Long: Term Investors Hybrid funds suit investors with a medium or long-term horizon. Over time, asset allocation in hybrid funds tends to undergo changes – in this direction to accommodate the risk bearing capacity of the investor and the need in the market.
4. New Investor or First Time: Hybrid funds are a door to mutual fund investing since it exposes the investor to equities and bonds. First time investors can invest in hybrid funds to start with a gradual buildup of portfolios without having to track individual assets.
5. Tax Efficiency-seeking investors: Hybrid funds with higher equity exposure may also provide the benefit of not being liable to capital gains tax for long-term investments in equities. The same benefit may attract the investors to reduce their tax liabilities.
Hybrid Funds in India: Best Options
Hybrid funds have wooed the Indian market as they provide the best of growth and stability. Some of the very popular hybrid funds existing in the Indian market include the following:
1. HDFC Hybrid Equity Fund
2. ICICI Prudential Equity & Debt Fund
3. SBI Equity Hybrid Fund
4. Aditya Birla Sun Life Balanced Advantage Fund
5. Mirae Asset Hybrid Equity Fund
These funds are very well known for their performance in the Indian market and provide differential equity exposure to suit the investors with differential risk profiles.
Taxation of Hybrid Funds in India
Taxes on hybrid funds will be levied on a proportionate basis as the taxpayers have to pay for equity and debt in the hybrid fund’s portfolio as explained below.
1. Equity Share: This, if more than 65% of a fund, would qualify the equity percentage as falling under tax rules of long-term capital gains on equity investments. Long-term capital gains that exceed an amount of INR 1 lakh will attract tax at 10% after a time period of one year.
2. Debt Component: The debt portion would be taxed at the usual rate of capital gain, applicable for debt investments. LTCG for debt funds has an indexation and is being taxed at 20%, and for STCG, it attracts 15%.
3. Dividend Distribution Tax: Dividends distributed by hybrid funds are liable to a dividend distribution tax (DDT) of 10% applicable on equity-oriented mutual funds.
Benefits of Hybrid Funds
Benefits
1. Diversification: Hybrid funds are diversified in that they expose the investor to other classes of assets and, in doing so, reduce risk because of diversification.
2. Average Returns and Low Risk: The funds target average returns and have low risks for investors with all types of investment goals.
3. Professional Management: Professional fund managers run hybrid funds. They change the asset allocation in the portfolio depending on market conditions.
4.Tax benefits: As the fund is exposed more towards equity provides tax benefit on long term capital gain.
Disadvantages
1. Less Return: Hybrid fund as it is investing both equity as well as debt funds are not capable to provide a return which the pure equity can make.
2. Management charges: In this case also asset allocation in this hybrid fund requires active management for which high charges are added with it.
3. Misalignment: If the hybrid fund manager doesn’t manage asset allocation properly, it would fail to deliver as expected.
Hybrid Funds Vs. Multi-Cap Mutual Funds
Hybrid funds and multi-cap mutual funds are diversified but structured and invested in a different manner:
• Hybrid Funds: Invest in both equity and debt, with an alignment of high risk and reward. Such funds suit investors, who are craving stability and steady returns.
• Multi-Cap Funds: This fund spreads itself widely among all kinds of equities, again here taking no major positions in debt securities-from large-cap stocks to small-cap. They believe in maximizing gains through equity instruments across market-capitalization. No one beats the bullish and bearish of funds, with most multi-cap funds moving into growth.
Conclusion
Hybrid funds are suitable for conservative investors who have an approach of balance in investments and invest in equities to get its growth benefits, and concurrently invest in debt instruments to make the portfolio stable. Hybrid funds cater to all kinds of risk-averse investor needs and help bring in benefits of diversification that can be used to mitigate market volatilities.
While returns may not be as attractive as pure equity funds, lower risk and diversification form some of the major attractions to the investor who looks for less volatile returns that are moderate in nature. In fact, knowing all the types of hybrid funds, along with the tax benefits they provide, forms an important agenda so that the investors make their decisions which form a step that is in proper alignment with objectives.
Frequently Asked Questions
1. What is a hybrid fund?
HDFC Hybrid Equity Fund is one of the examples of hybrid funds. Such funds invest in equities and debt in a balanced amount. This fund type manages to give growth through equities while keeping stability with debt instruments.
2. Are hybrid funds good for investing?
Yes, For investors who are really aware of their risk-return profiles, hybrid funds are probably one of the best investments. They are suited for those wanting exposure to equity and debt with no active management of allocation needed. Such funds are ideal for conservative to moderately risk-taking investors who seek diversified stability, but that too with a longer or medium-term investment horizon.
3. What is the difference between equity fund and hybrid fund?
The main difference is in the allocation of assets of an equity and a hybrid fund, of which:
o Equity Fund: An equity fund invests basically in equity-orientated and seeks more return in growth and has greater volatility due to market shifts in equities.
o Hybrid Fund: It invests in both equity and debt, and hence has a relatively more balanced risk return profile. They look to reduce risk through debt instruments but yet allow growth opportunities through equity.
4. Difference between multi-cap and hybrid fund?
The only difference between the two funds, that is, between multi-cap and hybrid fund is their asset allocation:
o Multi-Cap Fund: It invests in all market capitalizations from large-cap, mid-cap, to small-cap stocks. Investment is mainly in equities in order to generate maximum returns through growth opportunities available across various sectors and market sizes.
o Hybrid Fund: It invests in both equity and debt in a mixed manner to balance out risk and return. In hybrid funds, the ratio of equity and debt varies with different categories of hybrid fund categories, like Aggressive Hybrid or Conservative Hybrid.
5. Which one is better? Flexi Cap or Hybrid fund?
It totally depends on your Risk Appetite and Investment goal:
o Flexi Cap Fund: There is the freedom to invest in the large, mid and small-cap stocks with an opportunity in the market. It goes for high return and is for people with higher risk appetite.
o Hybrid Fund: It is the investment made both in equities and debt. It provides the balanced risk-return profile. Hence, it becomes perfectly suitable for those investors seeking relatively more modest returns without many fluctuations, while also for risk-lovers as well as a lower risk tolerance
6. Disadvantages of multi-cap funds
There are a few disadvantages of multi-cap funds; some of the disadvantages are stated below:
o Higher Risk: Since mid-cap and small-cap stocks are volatile, multi-cap funds tend to have more fluctuations.
o Lack of Focus: Since multi-cap funds invest across different market capitalizations, they may lack the focus of funds specializing in large or small-cap stocks, which may lead to suboptimal performance.
o Management Complexity: He may be pursuing an investment policy that does not suit the investor at any given point in time; more so with low or volatility phases of markets.