Hybrid Mutual Funds – Types and Benefits of Hybrid Funds

Mutual funds have become an extremely popular investment option for retail investors in India. They offer professional management, diversification, and ease of investing – even with a small amount. While there are various types of mutual fund schemes to choose from, hybrid mutual funds have been gaining a lot of traction among investors lately.

Also known as balanced funds, hybrid mutual funds invest in a mix of equities and debt instruments. This unique allocation helps contain the volatility of equities while enhancing returns through exposure to equities. Let’s understand the different types of hybrid funds and their key benefits.

What are Hybrid Funds?

Hybrid mutual fund means a mutual fund that invests in a mix of equities and debt instruments. The goal of a hybrid mutual fund is to provide the growth potential of equities and the stability of debt assets in a single fund. Based on their equity exposure, hybrid mutual funds can be classified into:

• Equity-oriented Hybrid Funds: These funds invest at least 65% of their assets in equities and the rest in debt. They are taxed like equity funds.
• Debt-oriented Hybrid Funds: They mainly invest in fixed-income products like bonds, debt instruments, etc. A small amount of up to 35% can be invested in equities.
• Balanced Hybrid Funds: This fund has a provision for holding up to 65% of its stake in equities and at least 35% in debt products. These funds seek to achieve a balance between risk and return.
• Dynamic Asset Allocation Funds: These funds alter the equity-debt allocation according to the market conditions and asset prices. This provides the ability to control risk.
• Arbitrage Funds: They try to make profits from the price difference between the cash and derivative markets. The majority is invested in debt instruments.

Let’s take a look at the main types of hybrid mutual funds:

Equity-Oriented Hybrid Funds

These funds provide mainly equity exposure, with a small portion invested in debt instruments. The objective is to capture the long-term growth of equities while debt provides stability. They invest in market capitalisation and industries to build a diversified equity portfolio. The debt component offers stability and provides income that can be used to pay dividends.

These funds provide higher potential returns than both equity and debt funds. However, they are also subject to the market risks of equities. For higher returns, they are advised for investors planning to invest for a period of 5 years or more. Aggressive investors who want tax benefits can also invest in these funds.

Debt-Oriented Hybrid Funds

They are mainly invested in fixed-income products like corporate bonds, government securities, money market instruments, etc. It has a limited exposure to equities – between 25-35%. Some funds also park a portion of money in cash or liquid funds.

They take a limited exposure to equities to achieve lower volatility than pure equity funds. The fixed-income portion provides a steady income to the investor who wants income to meet their needs. They are ideal for conservative investors, retirees who require regular income, and investors with an investment period of one to three years.

Balanced Hybrid Funds

These funds seek to achieve equity and debt exposure. They usually invest 65% in a diversified equity portfolio and 35% in debt instruments. The balanced mix is intended to provide risk-adjusted hybrid funds returns to the investors.

The equity portion offers capital appreciation, while the debt portion provides income and reduces the risk of portfolio fluctuations. Both provide returns with low volatility and are good for money placed in the moderate risk tolerance category. However, they need a minimum of three to five years to achieve their full investment returns.

Monthly Income Plans (MIPs)

MIPs have emerged as a significant category of debt-oriented hybrid funds. They mainly invest in fixed-income products, sometimes up to 85%. The rest is invested in equities. This composition enables MIPs to provide regular income together with exposure to equities.

Some MIPs provide dividend payments monthly or quarterly to meet the investor’s income needs. They provide income that is more consistent than that of debt funds but with better returns due to equity exposure. MIPs are preferred by retirees, conservative investors, and those who want to generate regular income.

Arbitrage Funds

These funds are designed to generate profits from the price difference between the spot and derivatives markets. For instance, they may purchase a stock in the spot market and sell its futures at a higher price. The price difference is the arbitrage profit for the fund.

Most of the fund is invested in debt instruments, and the remainder is used for arbitrage trading. The hybrid funds returns align with short-term debt funds, but the gains are taxed as equity after one year. They give comparatively risk-free returns, which can be useful for investors who are reluctant to take risks in the market.

Key Benefits of Investing in Hybrid Funds

Hybrid mutual funds provide a strategic combination of equities and debt in a single fund. This balanced allocation helps contain equities’ inherent volatility while improving returns through equity exposure. Hybrid funds aim to offer investors the best features of both asset classes.

The unique asset allocation and structure of hybrid funds come with several advantages that make them beneficial for investors:

• Dual Advantage: Hybrid funds come with the advantage of investing in equities and debt, thus offering the best of both worlds in a single fund.
• Stability: The debt portion reduces the risks associated with market volatility, especially with equities. Hybrid funds also reduce volatility and give consistent returns.
• Flexibility: The funds provide several alternatives according to the equity-debt ratio that match an individual’s risk profile and investment goals.
• Regular Income: The debt section provides a steady income to investors who require income to meet their expenses.
• Tax Efficiency: Equity exposure makes them tax efficient, and long-term gains may be tax-exempt up to ₹1 lakh per year.
• Professional Management: They allocate assets and sectors on a dynamic basis. They provide the ability to access the expertise of professional fund managers at relatively low costs.

Conclusion

The best hybrid mutual fund offers the best of both equity and debt funds. Hybrid funds deliver their financial goals with a balanced portfolio in a single fund and minimise the risks at the same time. Based on the risk tolerance and the time horizon, there are many hybrid funds that retail investors can choose from. Because of their asset flexibility, tax benefits, and neutrality, they are recommended to form the major part of most investors’ portfolios.

Hybrid funds are also very liquid investments. Many investors take advantage of this liquidity to meet short-term cash needs in a cost-effective manner without exiting their core hybrid fund investments. One popular way to unlock the value of your hybrid mutual fund portfolio is by availing a loan against mutual funds from fintech lenders like Fibe.

With Fibe Loan Against Mutual Funds, you enjoy instant, hassle-free loans against your investments at attractive interest rates. You can continue earning market-linked returns on your investments while using the loan amount to meet temporary cash flow needs or emergencies. This helps you avoid the distress sale of your investments. 

FAQs

What is a hybrid mutual fund?

A hybrid mutual fund invests in a mix of equities and fixed-income instruments. It aims to provide the growth potential of stocks and the stability of bonds in a single fund.

Who can invest in a hybrid fund?

Hybrid funds are suitable for investors with varying risk appetites – from conservative to aggressive. Based on goals and investment horizon, investors can select a hybrid fund aligning with their needs.

What are the main features of a hybrid fund?

The key features of hybrid funds are balanced asset allocation between equities and debt, flexibility to switch plans, lower volatility than pure equity funds, higher tax efficiency and better risk-adjusted returns than standalone equity or debt funds.