Conservative investor? Invest in balanced funds

Ritu Arora, a 33-year-old Gurgaon-based corporate communication professional, has been investing in bank fixed deposits, the Public Provident Fund (PPF) and traditional insurance products. Now, she wants to build a corpus for her six-year-old daughter's higher education, a goal that is 15 years away. When her friends suggested diversified equity funds, she was aghast at the thought of investing in volatile equity.


However, a visit to a financial planner, who advised balanced funds, resolved the issue. Such funds typically invest 65-75% of their portfolio in equity, and the balance 25-35% in bonds. The planner justified the equity component saying it would offer growth given the long-term nature of her goal and the fact that education costs tend to rise more than normal inflation; the debt component would make these funds less volatile.

Like Arora, many conservative investors are turning to balanced funds, which are currently in a sweet spot. According to Vishal Dhawan, chief financial planner at Mumbai-based Plan Ahead Wealth Advisors, "This is a good time to invest in these funds because there is opportunity in both equity and debt. Equity is trading at a discount to long-term averages. On the debt side, interest rates appear to have peaked and are likely to either remain at these levels or fall. Hence, a hybrid instrument, which gives you access to both equity and debt in a tax-efficient manner, should find many takers at this juncture."

Even from a defensive point of view, balanced funds are well-suited to moderate risk takers. Says Ravi Gopalakrishnan, head of equities, Canara Robeco Mutual Fund: "The current environment remains challenging due to macro-economic headwinds. In times of uncertainty, balanced funds are better suited as they offer diversification in different asset classes within a fund. The blend of equity and debt works in such a manner that equity boosts portfolio returns during market upswings, while the debt exposure contains the impact of a major fall in the equity market."

The benefits

Less volatile: As mentioned earlier, balanced funds are less volatile than diversified equity funds. Says Dhawan: "Not all investors can handle the volatility that comes with a 100% equity investment. This is especially true for those investing in equity for the first time. The 25-35% allocation to bonds reduces volatility and allows them to cope better with the emotional and behavioural challenges of investing in equity for the first time."


Automatic rebalancing: When you invest in such a fund, you don't have to bother about maintaining your portfolio's asset allocation. The fund does it on your behalf because it is its mandate to stick to a predetermined mix of equity and debt. Hence, the investors who lack the discipline to rebalance their portfolios periodically, or for behavioural reasons find it difficult to purchase an asset class that is underperforming, should invest in balanced funds.

Tax advantage: According to Gopalakrishnan, "As balanced funds keep their equity allocation above 65%, the investor's entire investment is treated as equity for tax purposes and is exempt from long-term capital gains tax."

Even the debt portion gets a favourable treatment (at par with equity). If, on the other hand, you had invested in two separate funds, equity and debt, you would have had to pay tax on long-term capital gains in case of the debt fund.

Asset allocation: They handle the task of tactical asset allocation (making a limited change to your strategic or long-term asset allocation based on your market outlook) on your behalf. Says Manish Gunwani, fund manager, ICICI Prudential Equity Volatility Advantage Fund: "The investor gets the advantage of the fund manager's expertise in allocating assets on his behalf. If the equity markets fall and valuations become attractive, he increases the allocation to equity. If they become overheated, he maintains a higher allocation to debt."