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Balanced Advantage Funds Provide The Right Balance To The Portfolio

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Balanced Funds

“Mutual Fund investments are subject to market risks; read all scheme-related documents carefully.

We have heard this in some marketing material from these leading fund houses. Well, how do you safeguard yourself against these market risks? Honestly, market risks are uncontrollable factors and very difficult to predict. But, interestingly, there is a product available in the market that will cater to such investor portfolio needs of a retail investor, i.e., manage dynamic risk in the market. It is called the ‘Balanced Advantage Fund.’

What are Balanced Advantage Funds (BAFs)?

Balanced Advantage Funds are hybrid mutual funds focused on a dynamic asset allocation strategy between equity and debt. Depending on the market conditions, the allocation is shifted from equity to debt and vice versa.

Balanced Advantage Funds are based on the fundamental idea of highest exposure in equity at irrational bottoms in the stock market and increase the share of debt funds in the portfolio.

How does the Balanced Advantage Fund work?

Let us understand with the help of a simple example. Suppose you have a portfolio of 100,000 with a 60 percent allocation to equity and 40 percent to debt funds.

Suppose the market does well in the next three months, and your equity portfolio is up 33.33 percent (or 1/3rd) to a valuation of INR 80,000. In such a scenario, the allocation to equities will increase from 60 percent to 67 percent.

In such cases, given the market condition and the mutual fund’s overall risk profile and objectives, the asset manager would shift the allocation from equity to debt funds to keep the original asset allocation ratio intact (i.e., 60:40 in favor of equity).

Similarly, the asset manager will follow the same process for the downside. When the equity valuation goes down, the asset manager will allocate more towards equity, thus providing an averaging cost benefit to you.

It does mitigate the overall market risk and expands the return profile with timely shifts in asset allocation from debt to equity and vice versa for you.

What are the benefits of BAFs?

1. No need to time the market

As an investor, you don’t need to time the market as the fund has a dynamic asset allocation between equity and debt. The Balanced Advantage Fund is the best balance between short-term fear and long-term regret for any market scenario. One of the most fundamental winning propositions for investors to succeed in the stock market is to increase the time in the market, not time the market accurately.

2. Potential Upside with protected downside

BAFs allow flexibility in returns with limited downside risk as they combine equity and debt. Your investments will grow when there is an expansion in the equity markets, and the capital stays protected because of debt allocation when the market goes down.

The debt assets provide a fixed rate of return irrespective of the performance of the equity markets. Hence, when the equity markets underperform, the allocation to debt funds cushions the overall rate of returns protecting your investments from the downside risk of capital.

3. Regular income-generating asset

Depending on your need and risk profile, BAFs are typically used as a systematic withdrawal plan. A systematic withdrawal plan is used for regular income flow. You can withdraw regular income from the returns as part of continuous allocation changes in BAFs. 

4. Tax-friendly investment option

Equity funds are taxed at a much lower rate than debt funds, be it short-term or long-term. Fortunately for BAFs investors, they are considered equity funds and taxed accordingly. Further, because of dynamic shifts in asset allocation, the gains from equity are booked at regular intervals and not all at once. Hence, the payments are tactfully considered over a period (beneficial for long-term gains as there is no tax for capital gains up to INR 100,000 per year)

5. Long term wealth generation

BAFs are most suited for investors planning long-term investment portfolios such as retirement. Because these funds automatically shuffle the allocation allowing it to minimize the portfolio risk and provide maximum risk-adjusted returns.

Who should invest in BAFs?

Investors who

  1. target capital appreciation in the long-run and regular income structure over long investment periods
  2. want to participate in the equity markets but want a less volatile fund NAV
  3. are new and clueless about market volatility
  4. are not comfortable with high volatility
  5. have a moderate risk capacity with limited exposure to equity markets
  6. have an investment horizon of at least three years

Balanced Advantage Funds are helpful for those who are moderately risk averse and want a share of equity returns keeping the overall portfolio downside risk limited.

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