A combination of equity and debt investments that are designed to achieve diversification and eliminate the concentration risk is known as hybrid funds. The perfect combination can offer higher returns than a regular debt fund and avoids being as risky as the equity funds. The investment objective and the risk preferences determine the choice of your hybrid fund.
The main aim of hybrid funds is to attain wealth appreciation in the long run. In the short run they generate income via a balanced portfolio. The money is allocated in different proportions for equity and debt by the fund manager. This allocation depends on the investment objective of the hybrid fund. Further, the buying or selling of securities takes place to extract the best benefits of the movement of the market.
Types of Hybrid Funds
Equity oriented hybrid funds - It observes an investment of more than 65% of the fund’s assets in equity and the remainder in debt and money market instruments. The equity shares of different companies across diverse industries like real estate, healthcare, FMCG, etc. comprises the equity component of the fund.
Monthly income plans - These are the funds that typically invest in debt instruments. Monthly Income Plans (MIP) have a 15% to 20% exposure to equities. This generates higher returns than the regular debt funds. Dividends become a medium of regular income to the investor in MIPs.
Debt-oriented balanced funds - It observes an investment of more than 65% of the fund’s assets towards debt instruments. Certain fixed-income coves like bonds, treasury bills, government securities, etc. constitute the debt component of hybrid funds.
Arbitrage funds - Herein, the stocks are bought at a lower price in a market by the fund manager. The stocks are then sold at a higher price in another market. They are relatively safer but are subject to tax on long-term capital gains.
Factors to be considered while investing in Hybrid Funds
- There are no guaranteed returns on hybrid funds. The Net Asset Value (NAV) of the fund is affected by the performance of underlying security. There is a probability of fluctuations due to market movements. Also, the dividends might not be declared during the market downturn.
- Even though hybrid funds are less risky than pure equity funds, it would be wrong to assume that they are entirely risk-free. Caution and portfolio rebalancing must be exercised regularly.
- Hybrid funds are generally ideal for medium-term investment horizons, preferably for five years.
- Hybrid funds can be used for meeting intermediate financial goals like purchasing a car or for funding the expenses of higher education. Retired persons opt for investing in hybrid funds and choose dividends to finance their post-retirement income.
- Ensure that the hybrid fund you choose has a lower expense ratio which would mean a higher profit ratio. The expense ratio is the fee charged by the hybrid fund for managing your portfolio
Hybrid funds are an excellent medium of wealth appreciation with considerably less risk. An individual must study the risk-return assessment carefully to extract maximum profit with a minimum expense ratio. The type of hybrid fund chosen should be decided after considering the risk appetite, investment horizon and financial goals.