Generally speaking, there are three different types of investments: stock (or high-risk investments), debt (or low-risk investments), and hybrid investments. Many investment advisors tell their clients to build an investing strategy on the basis of their financial objectives, level of risk tolerance, and time horizon. However, since everyone has unique wants and goals, it can be challenging to classify yourself as high-risk or low-risk. Hybrid mutual funds fill this gap.
What are hybrid mutual funds?
A hybrid fund makes an effort to build a balanced portfolio to provide its investors with consistent income and long-term capital growth. The fund manager divides the money across equities and debt instruments in changing ratios, building a portfolio in accordance with the scheme’s investment goal. Furthermore, if market movements are advantageous, the fund managers will also purchase or sell assets.
How do hybrid mutual funds work?
Hybrid funds help generate income in the present while aiming for long-term wealth growth. They are a tool for building a well-balanced portfolio.
When you invest in this kind of fund, the fund manager allocates your money in various ways based on your investment objective. So your money is split between stock and debt. The fund administrator has the right to buy or sell securities to help you benefit from market fluctuations.
Types of hybrid funds
Based on their asset allocation, hybrid funds are further divided into the following categories. While some hybrid funds allocate more to debt than equity, others do the opposite. Let’s take a closer look at the different categories.
- Equities-focused hybrid funds: An equity-oriented hybrid mutual fund is one in which the fund manager invests over 65% of the assets in equities. The rest goes into debt and money market instruments. The fund’s equity portion is made up of equity shares from a variety of sectors, including FMCG, finance, healthcare, real estate, and automobiles.
- Hybrid funds with a focus on debt: At least 60% of the assets in a debt-oriented hybrid fund are allocated to fixed-income instruments, such as bonds, debentures, government securities, etc. Equity is used to invest the remaining 40%. A tiny portion of the capital is also invested in liquid schemes.
- Funds for arbitrage: An arbitrage fund manager purchases the stock in this type of hybrid fund at a price cheaper than the market price. Then the manager immediately sells it in another market for the market price. Arbitrage changes do not, however, often present themselves promptly. The funds can remain with debt instruments or cash if arbitrage possibilities aren’t available.
Like most debt funds, arbitrage funds are comparatively safer by design. But like any equity fund, its long-term capital gains are subject to taxation.
- Equilibrium funds: A minimum of 65% of the assets in these funds are placed in stock and equity-related instruments. The remaining assets are divided between debt and cash. It is a good alternative for stock investors because its fixed-income component reduces the volatility of equities investments.
Regarded as equity funds for tax purposes, they provide tax exemption on long-term capital gains up to ₹1 lakh.
Who should invest in hybrid funds?
Anyone can invest in hybrid mutual funds, but it is best suited for those who are not risk averse. Because the levels of risk associated with them depend to a large extent on the asset allocation. That said, if you are good at analyzing the market, hybrid mutual funds could be a good option.
Tax implications for hybrid funds
In India, the gains tax on hybrid funds differs according to the equity and debt components. The taxes are divided as follows.
The equity component:
- Similar to equity funds, this is taxed: Long-term capital gains (LTCG) are taxed at 10% without indexation if they exceed ₹1 lakh.
- Taxes on short-term capital gains (STCG) are 15%.
The debt-related portion:
- Like any other pure debt fund, your income is increased by capital gains and taxed in accordance with the appropriate income tax bracket.
- Taxes on long-term capital gains from the debt component are 20% with indexation advantages and 10% without.
Investments in hybrid mutual funds are a great way to get decent returns with little risk. However, you must look into the fund’s expense ratio and the fund manager’s background before investing. As the cost is automatically withdrawn from your account, the expense ratio lowers the real returns. And a fund manager with a good track record is more likely to provide profitable results.
1. What are the advantages of hybrid mutual funds?
Hybrid mutual funds are a great way to manage asset allocation well. Asset allocation lets investors manage risks and return, allowing them to maximize profits while reducing the impact of volatility.
Hybrid funds’ equity component has the potential to produce better long-term returns. On the other hand, the debt component works to stabilize the portfolio and lower volatility.
Hybrid funds are less volatile than pure stock funds. This is because they can invest in low-volatility asset classes like debt, gold, etc., and equities. That makes them a good choice for novice investors.
2. Which hybrid mutual funds are the best?
Below is a list of some good hybrid funds. We hope it is of some help, but you should do your own research.
- Quant Multi Asset Fund
- Quant Absolute Fund
- ICICI Prudential Thematic Advantage Fund (FOF)
- Edelweiss Aggressive Hybrid Fund
- Kotak Equity Hybrid Fund
3. Who is eligible to invest in hybrid mutual funds?
Any investor who is allowed to invest as per the relevant scheme information documents can choose a hybrid mutual fund. Of course, you will also have to complete the KYC procedure to invest.