Ask Value Research The biggest advantage of investing in a balanced fund is the benefit of automatic re-balancing
Ask Value Research

Ask Value Research

The biggest advantage of investing in a balanced fund is the benefit of automatic re-balancing

Hybrid Funds: Effective Diversifiers
I have invested Rs 10 lakh in LICMF Bond Fund and Rs 3 lakh each in Magnum Income and Templeton India Income Builder. Please suggest a portfolio with 40 per cent bond and 60 per cent equity exposure.
-Laxman Panjwani

All three funds held by you are medium term debt funds and have no equity exposure. Now, in order to achieve the intended allocation we suggest you move your funds to balanced funds. These funds maintain a minimum 65 per cent exposure to equities.

The biggest advantage of investing in a balanced fund is the benefit of automatic re-balancing. For example, if equity markets rise, and consequently the equity weightage in a balanced fund's portfolio increases, the fund manager will book profit at every rise thus maintaining the intended balance between debt and equity allocation. This takes away the headache of consistently re-balancing your portfolio. Moreover, hybrid funds are tax-efficient. If you have to do a similar asset allocation on your own, the re-balancing exercises will result in substantial short-term capital gains. Therefore, we would recommend that you spread your investments over two or three well-diversified equity-oriented balanced funds. Over the long-term, your portfolio of hybrid funds will take care of the volatility in both equity and debt markets and you will likely end-up with decent gains.

Scared of Volatility?
I am 52 years old and a risk taker. I have invested in diversified equity funds. Looking at the recent high volatility by diversified equity funds recently, I am having doubts about my investment approach. Kindly advise on how to proceed.
-Dr P.V. Rao

If you don't need this money in the near term, forget about the daily ups and downs in the market. A longer holding period (at least 3-5 years) will most likely nullify this intermittent volatility and help you generate decent returns. Though you feel that you have a high tolerance for risk, you have to be able to control the emotions of greed and fear and follow some systematic asset allocation. What is lacking in your portfolio is a cushion to contain the risks. Since you are just six odd years away from your retirement, we would suggest you keep a small exposure in some debt funds say 20 per cent. The scorecard section of this magazine contains a comprehensive list of debt funds with details about their performance.

Debt vs Gilt
I am looking for a fund for short-term investment of around four to six months. Which is a better option - short-term debt fund or short-term gilt funds?

Both categories of funds are ideal for short-term but before making a decision, let us weigh the various factors that can impact your choice. There are two kinds of risk associated with debt instruments - credit risk and interest rate risk. Credit risk refers to the risk of default in the payment of coupon and principal amount. But since the gilts are sovereign instruments (fully backed by the government), short-term gilt funds are free of credit risk. Short-term debt funds, however, do carry such a risk.

Interest rate risk, on the other hand, refers to the risk of adverse price movements as a result of changes in interest rates. Bond prices and interest rates have inverse relation - a rise in interest rates leads to a fall in bond prices. Since government securities are believed to react more sharply to changes in interest rates, they carry more interest rate risk. Since gilts are backed by a sovereign guarantee and are also more liquid, they pay a lower coupon rate vis-à-vis corporate bonds. If the recent performance is anything to go by, the category of short-term debt funds returned 6.46 per cent in the last one year, higher than 5.31 per cent of short-term gilt funds as on March 19, 2007. The standard deviation (based on the weekly returns of the past 18 months) of short-term gilt funds is slightly higher at 0.098 per cent as against the short-term debt fund's 0.062 per cent. While one cannot conclusively say which category is better, in the wake of better returns coupled with lower volatility offered by debt short-term funds, we suggest you invest in them.

Parking Space
I run a small business and always have some short-term surpluses in a current account. Recently I came to know about ultra short-term funds meant specifically for such deposits. How fast can I redeem investments?
-Atul Ahuja

Ultra short-term funds, also known as cash funds, invest in very safe short-term instruments like treasury bills, commercial paper, certificate of deposits, call money, PSU bonds etc. Some funds' one-year returns has been around 6 per cent to 7 per cent. These funds are designed for quick redemptions. If you have an account in a bank where the mutual fund can credit your redemption directly, then you will get your cash the same day if you request a redemption before 10:30 am. Some banks may also offer automated accounts where your money gets swept into such a fund and gets automatically redeemed. However the Budget proposes that the dividend paid to corporate investors will be taxed at an effective rate of 28.33 per cent. If this does not pass through then dividends to all corporate and individual investors will remain at 12.5 per cent plus surcharge.

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