What happens if the debt portion of a balanced fund underperforms?
Dhirendra Kumar tells how volatility associated with debt instruments is different from equity
By Research Desk | Jul 10, 2018
We invest in balanced funds as they are safer. But what happens if the debt portfolio of a balanced fund underperforms at the same time when the equities are volatile?
See, debt is also volatile many times but understand the characteristics of it. In fixed income, the volatility is anchored to some value. Every bond and deposit that you buy cannot be wildly volatile. You know when you will get the interest and when this bond will expire. So, even in the worst case scenario, you know that you will get this money 1.5 years down the line and during this period you will get the interest. It never goes down by 50 per cent.
In equity, it is based on perception. Here is a company which makes Rs 100 crore and there is a possibility that it may make Rs 1,000 crore. And then, when that does not happen and the company makes only Rs 50 crore, the price crashes and it leads to massive erosion.
When there is a lot of noise in the market and too many things happening at the same time, say some geo-political noise or the global crisis, the equity funds may go down by 80 per cent. But bond funds go down by 2 to 3 per cent only. That is the calamity situation for bond funds. So, bonds are able to provide you the desired stability. They lose value in a narrow range and they don't go for a free fall.
Also, the nomenclature has now changed. Balanced funds are now called Aggressive Hybrid Funds as they invest nearly 70-75 per cent in equity. They are nice for anyone who is starting with equities and for retirees too.