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How to choose a Hybrid Fund

Learn how to choose the right Hybrid Fund category as per your goals and risk appetite. 
May 2024
3 mins read
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    Hybrid Funds are gaining traction, which is evident by the steady growth in assets in this category. The assets under management under Hybrid Funds category has jumped from Rs 5.01 lakh crore in April 2023 to reach Rs. 7.77 lakh crore as of April 2024, shows AMFI data. Similarly, the number of folios in this category have grown from Rs. 1.21 crore to Rs. 1.36 crore during the same period. 

    So what’s the reason behind this astounding growth? Hybrid Funds give you the best of both worlds – debt and equity in one scheme. However, there are seven categories of Hybrid Funds. In this post, you will learn how to choose the right category as per your goals and risk appetite.

    The purpose of investing in these funds are manifold:

    For first-time MF investors

    You may be new to market linked investing and transitioning from traditional products to equity is better managed by taking a middle path by opting for a Hybrid Fund which allows you to benefit from equity market upside but limits the fall in return in case of extreme volatility or corrections.

    Looking for better returns

    If you have a time horizon of 3-7 years, Equity Funds may seem too volatile in this period and at the same time it’s long enough to desire better returns as compared to pure fixed income type investing. Hybrid Funds fit in well here.

    Seeking low volatility

    Lastly, you may just be looking for less volatility in the portfolio and picking the most suitable type of hybrid fund can help.

    Risk

    These funds can witness drawdown when equity markets correct – depending on which category and equity/debt composition. The benefit of Balanced Advantage Funds is that they may be able to protect the downside to some extent as compared to pure Equity Funds during volatile markets as they can reduce the equity exposure. Balanced Advantage Funds tweak their equity/debt allocation based on filters such as PE, interest rates, medium to long term outlook of the asset classes, and other macro- economic factors.

    You may consider investing some portion of your portfolio in this category. Since some of these funds tend to have a large cap bias, you may need to invest separately in Mid and Small Cap categories for diversification. These funds may not deliver returns on par with a pure Equity Fund which can invest as high as 95% into equities.

    Under the BAF category, the extent of equity exposure can vary across funds. Some funds may be aggressively managed (higher equity exposure) while some funds can have relatively low equity exposure.

    What you need to watch out for

    When you hear fixed income, you may tend to think about stable returns. The first step is to be aware that there are high yield fixed income investment options too and they come with high risk too. Bonds default and you can potentially lose money. When it comes to Hybrid Funds, the fixed income portion of the portfolio is ideally not meant to chase high yield or return because that part of the job is done by the equity side of the portfolio.
    Hence, step two is to look for Hybrid Funds whose fixed income portfolios are of high credit quality and carry low risk of default, along with low interest rate risk.

    When you look at the type of Hybrid Funds, a Conservative Hybrid Fund or a Multi Asset Hybrid Fund which limits the exposure to volatile equity assets, can help with the requirement of stability in returns. Lastly, be conscious that these are ideally suited for investment horizon of 3-5 years.

    Taxation

    Equity oriented Hybrid schemes will be taxed as per equity taxation. So, this means that if you hold for less than a year your gains will be taxed at 15% which is the rate of short term capital gains in equity and if you hold for more than a year then long term capital gains exceeding Rs 1 lakh are taxed at 10%. (Sold on or redeemed on or before 31 March 2025.)

    Balanced Hybrid Funds invest in the range of 40% to 60% in equities and 40% to 60% in debt. Balanced Hybrid Funds qualify for indexation benefit. Gains realized after three years are taxed at 20% with indexation benefit. (Sold on or redeemed on or before 31 March 2025.)  Investors should have at least three years of investment horizon in these funds.

    In case of fixed income oriented hybrid schemes, any gains are taxed at your relevant income tax rate. Secondly, these are active funds and you have to be mindful of portfolio quality, expense ratios, fund management and investment style of both equity and fixed income portions of the portfolio.

    Note: For fresh investments on or after 23 July 2024, schemes that invest at least 65% or more attract LTCG (12 month holding period) of 12.5% (exemption of up to 1.25 lakh) and STCG of 20%.  Balanced Hybrid Funds attract LTCG (24 month holding period) of 12.5% while STCG is taxed at your slab rate. 

    5 filters to apply while choosing a Hybrid Fund:

      1. Decide your investment horizon and goal.
      2. Choose the category of hybrid fund depending on your goal and time horizon.
      3. Consider taxation aspect. Not all hybrid funds are taxed as equity funds.
      4. Asses the equity/debt exposure, style (value, growth).
      5. Check how much risk the fixed income portfolio is taking by looking at its
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      PGIM India Asset Management Private Limited
      (CIN - U74900MH2008FTC187029)
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      Email: care@pgimindia.co.in
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      The information contained herein is provided by PGIM India Asset Management Private Limited (the AMC) on the basis of publicly available information, internally developed data and other third-party sources believed to be reliable. However, the AMC cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. The information contained herein is current as of the date of issuance* (or such earlier date as referenced herein) and is subject to change without notice. The AMC has no obligation to update any or all of such information; nor does the AMC make any express or implied warranties or representations as to its completeness or accuracy. There can be no assurance that any forecast made herein will be actually realized. These materials do not take into account individual investor's objectives, needs or circumstances or the suitability of any securities, financial instruments or investment strategies described herein for particular investor. Hence, each investor is advised to consult his or her own professional investment / tax advisor / consultant for advice in this regard. The information contained herein is provided on the basis of and subject to the explanations, caveats and warnings set out elsewhere herein. The views of the Fund Manager should not be construed as an advice and investors must make their own investment decisions regarding investment/ disinvestment in securities market and/or suitability of the fund based on their specific investment objectives and financial positions and using such independent advisors as they believe necessary.
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