Conservative hybrid funds are a category of hybrid mutual funds that invest 75% to 90% of the assets in debt or debt-related instruments and the balance is invested in equity or equity-related instruments. Since a majority of the underlying securities are invested in debt or debt-related investments, this category offers a relatively higher downside protection to investors. Considering the current interest scenario, these funds are typically ideal for investors with a time horizon of three to five years.
Advantages of conservative hybrid funds
Relatively less risky: As the same suggests, conservative hybrid funds are ‘conservative’ in nature. Effectively, it means that a majority of the underlying securities in a conservative hybrid fund may be invested in debt instruments like bonds, debentures and treasury bills, etc. The portfolio is structured to ensure the safety of the principal amount, while potentially earning anticipated returns too. In order to keep the volatility at minimal levels, fund managers tend to give heavy weightage to debt instruments that are less risky in nature.
Potentially better returns than pure debt schemes: Since these funds have exposure to equity and debt, they are potentially better poised to offer better returns than pure debt funds. They are an ideal option for investors who have a low risk appetite yet wish to gain some form of equity exposure to attain mid to long-term financial goals. Fund managers have an important role to play here as different approaches will result in varied outcomes. Hence, first understand the asset allocation dynamic (essentially, recognize the exposure to high quality debt instruments such as AAA papers and the total expense ratio before choosing a scheme.
Portfolio diversification: The core distinction of a hybrid fund is that it offers exposure to two or more asset classes under one single scheme. Thus, investors automatically benefit from the power of diversification. New investors who are looking to get limited exposure to equity markets while also balancing it with safer assets can consider starting with a conservative hybrid fund. Experienced investors can also invest in it to give a new dimension to their portfolio based on their goal, risk profile, investment tenure, management style, etc.
Debt taxation: Another important parameter to consider is taxation. Since these funds have maximum exposure to debt, they fall under the tax structure of a debt fund. For investors who hold on to the Conservative Hybrid Fund for more than three years, the gains are taxed under long term capital gain (LTCG) at 20% with indexation benefit. However, if redeemed within three years, the gains are subject to short term capital gains.
While conservative hybrid funds tend to have a lower risk factor, they may not be entirely risk-free in nature. The equity exposure to these schemes is bound to attract some form of risk. However, this risk may not be as high as funds with exposure to pure equity funds or funds with higher exposure to equity. In a nutshell, conservative hybrid funds aim to provide active asset allocation, better risk-adjusted returns and efficient taxation. The inherent flexibility of these funds make them an important addition to an investor’s portfolio.
(The writer is chief business officer, Axis AMC)