Balanced fund investors in trouble
Senior citizens should switch to debt funds for regular income while younger investors should continue their SIPs
Balanced funds have had a great run during the past year. With assets under management rising by over ~1 trillion in 2017, this category attracted a lot of new investors. But things have changed dramatically for these investors in 2018. With the stock market taking a serious hit in the past week and bond yields rising sharply, this category is taking a hit on both its asset classes. Add to that, the re-introduction of the long-term capital gains (LTCG) tax and a dividend distribution tax, which means investors taking the dividend route for regular income would take a hit.
Balanced funds, or equity-oriented hybrid funds, invest more than 65 per cent of their portfolio in equities and were entitled to zero LTCG tax (after a year) earlier. These are suitable for first-time equity investors who can get both equity and debt exposure with a limited sum of money. Seasoned investors who do not want to handle asset allocation themselves can also invest in these.
These funds have certain drawbacks as well. "Such funds tend to offer the same asset allocation to all investors, irrespective of their needs," says Kaustubh Belapurkar, director-manager research, Morningstar Investment Advisor India. Moreover, the fund manager controls the asset allocation and not the investor. He may keep it at 80:20 or 70:30, based on his market outlook rather than the investor's risk appetite.
Since these are predominantly equity-oriented, the funds are only slightly less volatile than pure equity funds. During the market rout between January 29 and February 7, largecap funds fell 5.46 per cent and mid- and small-cap funds fell 5.54 per cent, while balanced funds fell 3.68 per cent (these are category average returns).
Balanced funds yielded high returns in 2017 (see table) due to a combination of factors.
The equity markets were moving up: Nifty delivered 28.81 per cent in 2017. Interest rates were declining. From a peak of 7.95 per cent on May 16, 2015, the 10-year G-Sec yield touched a low of 6.23 per cent on December 3, 2016, rose, and then fell again to 6.43 per cent on July 25, 2017, before starting to climb.
When interest rates are falling, fund managers move into higherduration bonds and benefit from capital gains. But that situation has changed now. "It may be difficult to repeat last year's returns this year," said Saravana Kumar, chief investment officer, LIC Mutual Fund. With Indian equities trading at high valuations and yields rising in the US, he said equities would be more volatile in 2018.
In a rising rate scenario, returns from debt may also be more muted. Many retirees, who need a regular income, were mis-sold these funds in 2017 with the promise of attractive tax-free returns. "These funds can only distribute dividends out of the surplus generated. They may continue to distribute dividend for some time out of past surpluses. But if the market downturn
continues, they will stop eventually," said Deepesh Raghaw, founder, PersonalFinancePlan.in, a Sebi-registered investment advisor. The imposition of a 10 per cent tax on dividend has also put paid to the promise of tax-free returns.
Investors who had invested in balanced funds after fully understanding their risks, and with an investment horizon of seven years or more, should continue their SIPs in these. Those who invested in these for assured regular income should withdraw their funds before their capital is eroded and shift to a systematic withdrawal plan in a short-term or ultra-short-term debt fund.