Balanced Funds: Meaning, Features & Types of Hybrid Funds

Some investors thrive on risks, others prefer a more conservative approach. Then there is the third kind who wouldn’t mind a bit of both: take some risk but not too much of it.It is for this group that Asset Management Companies (AMCs) have mutual funds that aim to strike a balance between risk and potential returns, thereby maximizing returns on investments.Introduced in 2017 when market regulator SEBI recategorized mutual fund schemes, these balanced or hybrid funds are mutual funds that blend the certainty of fixed income or debt instruments with the growth of equity instruments.SEBI mandates that a hybrid fund’s asset allocation is 60:40; it can either be 60% equities and 40% debt, or vice versa. Reshuffling of portfolio is allowed, but adhering to the guideline on ratio is mandatory.

Before learning of the benefits of investing in a balanced fund, let’s understand what a balanced fund is.A balanced fund, also known as hybrid fund, is initially a mutual fund which invests in both equity and debt instruments in a specific ratio. This ratio usually ranges of approximately 60-75% equity and 25-40% debt, though the exact allocation may vary depending on the fund's investment strategy and risk profile.The main intention of a balanced fund is to balance out the risk and return factors of investment by investing in equity for the growth potential and levelling it with the security of debt instruments. The allocation between equity and debt in a balanced fund is actively managed by the fund manager based on market conditions and their outlook on various asset classes. Some balanced funds may also have a small allocation to cash or other assets to manage liquidity.In short, in such balanced funds, the equity investments aim to generate capital appreciation over the long term, while the debt component provides stability and generates regular income.

On the most basic level, a balanced fund works by balancing the risk and income potential of the market by investing in both equity, for the long-term appreciation, and debt, for slability.The allocation is done in a pre-decided ratio with room for the fund manager to change the composition to suit the market conditions. For example, a balanced fund could have a 60:40 portfolio make-up with an option for the fund manager to go 15% over the limit set limit considering market condition.So, if the market conditions are exceedingly volatile and the fund manager anticipates any loss, he can re-allocate investments out of equity and over to debt instruments to a maximum of 55% of total assets.Because the fund manager does all the research and makes all the decisions, you can sit back and relax after investing in balanced funds. If not for active management on the part of the balanced fund manager, there would be a need for active management on your part, which takes a lot of time, effort and research.

The key features of balanced funds are listed below:

• Investments are in both equities and debt. This helps in diversifying the portfolio, protecting the capital, and maximizing profits.
• The investor has exposure to two types of asset classes; by just investing in a single mutual fund, he or she can enjoy the best of both worlds .
• Ratio of asset allocation is fixed to minimize investor’s risk exposure. It can, however, be modified slightly.
• A mutual fund house can offer either a balanced or an aggressive hybrid fund; they cannot offer both to clients.
• There are no specifications on which stocks to buy, and funds can invest in any stock irrespective of risk level.
• These funds maintain a risk-reward balance, helping investors make profits and minimize risk.

Types of hybrid fund; they are either equity-oriented, or debt-oriented:

1. Conservative hybrid funds These funds allocate 75%-90% of its corpus towards debt instruments (commercial papers, certificates of deposit, T-bills, corporate bonds etc.) and allocate a smaller portion towards equity and equity-related instruments. Suitable for risk-averse investors with lower risk appetite.
2. Aggressive hybrid funds These funds invest around 65%-80% of its corpus in equity and equity-related instruments and the rest in debt and money market instruments. They offer potentially higher returns but are more risky than conservative portfolios.
3. Dynamic asset funds These funds adjust investments in equity and debt based on market conditions. Dynamic asset funds aim for better risk-adjusted returns over the long term.
4. Equity-oriented funds Equity-oriented funds invest in equity, debt, and seek arbitrage opportunities in the cash and derivative segments of the equity market. They aim for income generation and long-term wealth accumulation.
5. Arbitrage funds Arbitrage funds profit from price differences between cash and futures markets. They also maintain 65% of gross equity exposure with the rest in debt and money market instruments.
6. Multi-asset allocation fund These funds invest a minimum of 10% of its corpus in at least three asset classes, adjusting allocation based on market conditions. They typically include equity, debt, gold, and other asset classes.

Also Read: Arbitrage Fund Taxation – Knowing The Tax Implications

Balanced funds are ideal for investors with a time horizon of at least 5-10 years. These funds are beneficial only if invested in for a longer time.This makes balanced funds perfect for people with surplus funds who want to add to their nest egg for life after retirement.Even retired people with no source of revenue can consider these to invest in dividend-paying companies and corporate bonds that make periodic payments. This can give them a steady income as well as create wealth.New investors unfamiliar with mutual funds too can go for a balanced fund. These funds will eventually grow and factor in the market's volatility. Over the long run, their investments will be safe.For the same reason, risk-averse investors who want higher returns than debt funds but find equity investments very risky, can consider balanced funds.Basically, it suits all investors who want extra income, safety, and capital appreciation – or if the fund’s investment objective is in line with theirs.

The best hybrid funds can be invested in either via SIP (Systematic Investment Plan) or lump sum mutual funds investment.SIP allows mutual fund investors to make pre-fixed payments at regular intervals. The investor’s bank must be instructed to activate this facility. Lump sum mutual fund investment is a one-time mutual fund investment; here, the investor puts in the investible amount in one go. It is a hassle-free way of investing in a balanced fund and gives better returns than the SIP.

Investing in balanced funds have several advantages, as given below:

Less risk

Balanced funds cut down on risks as they strive for eye stable returns by factoring in both equity and debt. Only investing only in equities can mean huge losses for investors if the markets crash, while in a bull market, debt funds do not perform well. A balanced fund evens out the odds.

Helps diversification

Investing in different schemes for portfolio diversification can be messy; investing in a balanced fund achieves the same, even while maximizing returns in different market conditions and limiting liabilities of the investor.

Rebalances the fund

Since investments are made in two asset classes, market sentiments do not affect the funds much. Fund managers can reshuffle investments between the asset classes if the markets are overvalued. This helps investments tide over market fluctuations and yield better returns.

Tax benefits

Balanced funds enjoy benefits of equity funds if 65% of their allocation is in equities; capital gains are tax free if held for more than one year.

Inflation guard

Investors are protected from inflation because of the debt exposure. Often, these funds invest in foreign bonds, which gives them access to countries with low inflation; this too protects the investor to an extent.

There are certain disadvantages associated with balanced funds, listed below:

1. First, the asset allocation in balanced funds is in the ratio of 60:40. If the 60% is in equities, the growth focus may not be in line with investors who want to protect their wealth.
2. Second, because of the its debt allocation, in whatever ratio, a balance fund is unlikely to outperform a pure equity scheme over the long term (20-25 years). This means it is not suitable for investors looking for an active option.
3. Third, most fund managers ignore foreign bonds and international stocks; this can block potential returns.
4. Fourth, balanced funds tend to invest primarily in large-cap companies, at the cost of small-and mid-cap stocks that yield higher returns. Thus, the high returns that could have been generated end up as moderate returns.

The balanced funds are taxed depending upon the orientation of the funds.Balanced funds with higher equity exposure are taxed 15% as short-term capital gains (STCG). If the investment period is more than a year, then long-term capital gains (LTCG) of 10% will be applicable. However, gains up to Rs 1 lakh in LTCG are exempt in a financial year.Balanced funds with higher debt exposure are taxed differently. STCG comes into play for investments of less than three years, and gains are taxed as per the individual's income tax slab rate.If the investments are held for more than three years, the gains will be deemed long-term, and taxed at 20%, along with indexation benefits. Also Read: All You Need To Know About Short Term Capital Gains Tax (STCG)

Anyone wanting to invest in balanced funds online can do so by following these steps: Step 1: Open an online account with an Asset Management Company (AMC). Step 2: Complete the KYC (Know Your Customer) process. This can be done by submitting any of the following documents-

• PAN card
• Aadhaar card
• Driving license
• Voter ID
• Passport

Step 3: Submit documents for residential proof. These can be:

• Aadhaar card
• Driving license
• Voter ID
• Passport
• Electricity bills
• Landline phone bills If the person resides in a rented place, a copy of the rental agreement can be submitted.
• Gas connection receipt.

Step 4: Fill in the bank details. These are:

• The name of the bank and the branch where the account is opened.
• Account number and the name of the account holder.
• The Indian Financial System Code, commonly known as the IFSC code of the bank, needs to be provided. This helps in locating the bank branch.

Step 5: Once the account is opened, click on the type of funds one wishes to invest in. Step 6: After selecting the mutual fund, pay by transferring the amount from the linked bank account. This can be lumpsum mutual funds or SIP (Systematic Investment Plan). Step 7: In the case of SIP, the bank has to be instructed to auto-debit the amount every month. Step 8: Once the payment is made, the details of the invested mutual fund will be shared with the investor.Visit the AMC or the mutual fund house for offline investment. Fill in the application, complete all the formalities related to KYC and submit a copy of the required documents. Give them a cancelled bank cheque leaf where the account is opened. Also Read: What Is The Right Duration For a SIP? Find Out

If you are familiar with the term hybrid funds, this question might already have popped into your head. However, a comparison between these two terms is not possible as they both, essentially, mean the same thing. Both funds aim to invest in a mix of equity and debt to provide appreciation as well as stability. Balanced funds may be considered a type of hybrid funds.Both terms, balanced funds and hybrid funds, are used interchangeably in the market and offer similar features. They are both suitable for investors who want moderate exposure to equities while maintaining some degree of downside protection. In some regions or fund houses, the term "balanced fund" is more commonly used, while in others, "hybrid fund" is the preferred term.It is, however, also important that you review the investment objectives, asset allocation, risk profile, and historical performance of a specific balanced or hybrid fund before investing. Different funds may have different strategies and may vary in terms of risk and return potential. It’s best that you try to align your investment choices with your financial goals, risk tolerance, and investment time horizon.Also Read: What is The Difference Between a Balanced Fund and a Balanced Advantage Fund?

Investors looking for a strategically diversified portfolio with moderate returns and acceptable risk can consider investing in balanced funds. These funds are conservative but give better returns to their investors than debt funds.Having said this, investors are advised to prioritize their goals before making any investments.Many investors prefer balanced funds as they provide exposure to both debt and equity in a single fund.For new investors or beginners, hybrid funds can be their starting point on embarking in their mutual fund investment journey.