Balanced advantage funds: Investor takeaway

We are skeptical of a promise that hinges on 'timing' the market. In fact, our analysis proves that BAFs do not have a mantra to consistently time the market. When the markets crashed in March 2020, even these funds gave huge negative returns because no model can predict situations like the pandemic. After the mayhem, almost all dynamic funds increased their equity allocation significantly to reap the benefits of low stock prices. But after three-four months, they reduced the equity exposure, even though the market continued to make new highs for more than a year.

We believe that static asset allocations (75:25, 50:50, 25:75) based on your time horizon and ability to take risk can deliver the right outcomes in the long run rather than trying to pre-empt market moves (based on models or human judgement) and shifting allocations accordingly.

Investors looking for a low allocation to equity can go for conservative hybrid funds and equity savings funds. For those who want a larger allocation to stocks, aggressive hybrid funds very well fit the bill.

For someone who wants a 50:50 (balanced hybrid) allocation in a single, convenient package, there aren't too many options currently. There may not be too many in future as well, because of the SEBI rule that AMCs can either have an aggressive hybrid or a balanced hybrid fund. Such investors may find BAFs appealing because of the tax advantage. Most of them are treated as equity funds for tax treatment because they keep their gross equity above 65 per cent (using derivatives).

BAFs which are closer to a 50:50 allocation or have similar risks and returns despite being little low in equity are worth exploring. These include BAFs from Baroda, ICICI Prudential, Kotak, Tata and Union. See chart 'Odd ones out' to know how these funds have done during bear and bull phases and how they compare against a 50:50 portfolio.

Investors need to look more closely before they invest. Funds with an asset allocation that stays within a narrow range, are less volatile and have reasonably low costs can be useful. Having said that, investors should also not blindly believe what fund houses say in their pitch documents. After all, if you go to see a romantic comedy, you wouldn't like to end up watching a horror film instead.

Also in this series:

Part 1: Balanced advantage funds: What drives their popularity?

Part 2: Balanced advantage funds: A case of 'pinky' promise or 'pompous' promise

Part 3: Balanced advantage funds: BAFs vs static 50:50 portfolio