Investors in three main assets, equities, gold and debt, did not earn much last year. The Bombay Stock Exchange Sensex delivered a paltry 9% return while gold fell 14%, after rising for nearly 10 years in a row. The National Stock Exchange G-sec composite index rose just 2.03%.
It is difficult to always choose the right asset for investing. This is because it is rare for all assets to deliver decent gains in a given period. Multi-asset funds, which invest in different assets and increase/decrease allocation according to the prospects of each, can be a solution to this problem.
Lakshmi Iyer, chief investment officer (debt) and head, products, Kotak Mutual Fund, says these funds are all the more beneficial in situations like we are in right now.
"In uncertain times, there is heightened apprehension in the minds of investors due to which they avoid financial investments. The advantage of such funds is that the onus is on the fund manager to toggle between different assets and optimise returns. Also, there is no temptation to time the market as these funds retain exposure to each asset. The exposure level, of course, will be guided by the fund manager's market view."
The traditional types of multi asset funds are balanced funds and monthly income funds, which invest only in two assets-equity and debt. The newer ones offer exposure to more assets. So, in India, to cash in on the rally in gold, a few fund houses have launched funds that invest in equity, debt as well as gold, while in western markets multi-asset funds invest in all assets ranging from equity, debt, real estate, commodities, private equity and hedge funds.
Here are some of the biggest advantages and drawbacks of investing in multi-asset funds.
People invest in these funds to get exposure to a number of assets. Diversification dilutes risk as every asset class has its own risk-return profile and performs differently over each market cycle. Equities are considered the most volatile in the short term while debt is known for stability. At the same time, stocks have the ability to deliver higher returns over the long term, while gains from debt will always be moderate and prone to dilution by inflation and tax. That is why it makes sense to invest in asset classes which have a very low correlation or, better still, a negative correlation with each other. A good performance of one asset class, in such a case, will support the overall portfolio returns when other assets are not doing well.
"By investing in more than one asset, you reduce the risk of losing money. Also, your overall returns will have a smoother ride. If one asset does poorly, you may be in a position to cover the loss with better returns from other asset(s)," says Chirag Mehta, fund manager, commodities, Quantum mutual fund.
The "Balancing Act" table shows how equity, debt and gold, have performed over different market cycles.Automatic rebalancing:
Automatic rebalancing of the portfolio is essential to maintain the asset allocation at pre-defined levels. "The Brinson study (1986) suggests that 93.4% variability of a fund's average return can be attributed to asset allocation while we as investors tend to focus most of our energy on other factors such as market timing and security selection," says Puneet Chaddha, CEO, HSBC Global Asset Management, India.
Most investors do not have the time and skills to do such rebalancing. Therefore, they must leave the job to professionals.
Fund managers of multiasset funds do periodic rebalancing by booking gains from one asset which is performing relatively better and investing the money in the asset which is underperforming. "Automatic rebalancing creates value for the portfolio over the long term due to the continuous process of profit-booking at higher levels and reinvestment at lower levels," says R Sivakumar, head of fixed income, Axis MF.
These funds offer the investor a wellrounded portfolio provided he is comfortable with the allocation to different assets made by the fund manager. "Many investors don't like to hold too many funds. Multiasset funds are ideal for such investors as they provide exposure to different assets in a single investment," says Sreekanth Meenakshi, founder and director, FundsIndia.com.
Another advantage is for investors who don't have enough money to start a systematic investment plan, or SIP, in three funds for exposure to three different assets. For example, if an investor opts for an SIP of Rs 2,000 and wants 10% exposure to gold, he won't be able to start a Rs 200 SIP in a gold fund, says Meenakshi of Fundsindia.com. But he can have 10% allocation to gold in one multi-asset fund.
These funds don't have a long history and haven't been through a full market cycle yet. So, it will be premature to comment on their performance. But if we look at their recent performance, they have done a decent job. Also, their performance is not comparable as each has a different allocation to the three assets.
As stock markets have risen sharply over the past one year, funds with higher allocation to equities have done better than others. The best performing in the category over the past one year is L&T India Equity & Gold. It has given a return of 21% over the one-year period ended 31 March 2014. It has invested 79% funds in equities, the highest among multiasset funds. Union KBC Asset Allocation Fund-Conservative plan has delivered the lowest return of 3.22 per cent. Its allocation to equity is just 22%.
The biggest disadvantage of these funds is the tax treatment. Any fund that invests less than 65% assets in equities is considered a debt fund for taxation. Therefore, even if your 40% money is invested in equities, gains from the equity part will be taxed like those from a debt fund. Short-term gains (less than a year) from debt funds are clubbed with income and taxed while long-term gains are taxed at 10% with indexation and 20% without indexation. Indexation involves adjusting the purchase price with inflation. It lowers the gains and, hence, the tax burden.
If you invest in specialised funds for each asset, the gains will be taxed according to the type of the asset.
The allocation to different assets under these funds is predefined. It may or may not suit the individual's choice. You can't alter it according to your expectation of where different assets are headed.
Expense ratio is high:
These funds have not yet become popular with investors. Therefore, their size is small. The biggest is Axis Triple Advantage with assets of Rs 690 crore. The total assets managed by these funds are around Rs 1,589 crore. Therefore, most have high expense ratio. Till the size increases, the ratio is likely to remain high. Also, some are fund of funds and, therefore, bear expenses of the underlying funds as well. Fund of funds collect money for investing in other funds.
Such funds make sense for investors who don't have the skills to build a portfolio on their own and want to diversify across assets.