Balanced Funds for 2016

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Investors can improve tax efficiency by shifting part of their equity & debt funds to balanced funds

 

While equity mutual funds are expected to beat other fund classes in the long term, shortterm volatility is a major bugbear. Investing in the stock market through balanced funds is a better option for this class of investors. Mainly because the equity exposure will be restricted between 65% and 75% for these funds, and a debt portion of 25%-35% cuts down volatility significantly . Though the returns from balanced funds will be lower than that of equity funds in long term, the volatility will also be lower. So on a risk-adjusted basis, it should give better return on 5-7 year holding period.

Both debt and equity are expected to do well in future. This is because an expected fall in interest rate will benefit both the asset classes. Balanced funds make immense sense in a period like this when equity and debt are expected to do well," .

There are also experts who believe that balanced funds can beat equity fund in return in absolute terms too over the next three years. Equity market performance in near future will depend on interest-rate movements. Since the debt (or the debt portion in balanced fund) will be the first beneficiary of a rate reduction, bal anced fund may do better than the equity funds on absolute basis in the next three years.

Another advantage of balanced funds is the tax treat ment. Since these equity oriented balanced funds keep more than 65% of their assets in equities, they are eligible for equity type taxation benefits. While the gains from debt funds become long term capi tal gain only after three years, the same from balanced fund become long term capital gain after one year's holding. While you have to pay 20% capital gains tax after indexation for debt funds, long-term capital gains from bal a n c e d f u n d s a r e t a x f r e e.

Balanced funds make the debt part also tax free after a year's holding.

So, can we create a balanced fund strategy to reduce tax and risks?

Yes, but investors need to understand the nitty-gritty first. Usually investors tend to look at the performance of an individual scheme and not at the overall portfolio performance. This is investor psychology.

To implement a balanced-fund strategy , investors need to come out of this block.An investor needs to treat balanced funds not as a single scheme, but as a combination of two schemes: you have invested 70% in equity funds and the remaining 30% in debt funds.

Once we understand this concept, it is easy to create equity allocations using balanced funds and debt funds (See Table).

For example, assume that A is a high risktaker and wants 80% of his allocation to equity. Instead of investing 80% in equity funds and 20% in debt funds, the same objective can be realised by 33.3% in equity funds and the 66.7% in balanced funds. And unlike the normal allocation (80% equity + 20% debt where the 20% debt will be taxed separately), 100% of the portfolio will be taxed as equity under this strategy .

Now, consider the case of B, who is risk averse and wants to make only a very small equity allocation of, say, 10%. The same strategy can be replicated for him by investing 85.7% in debt fund and the remaining 14.3% in balanced fund. This is much better compared to the traditional way of putting that money into monthly income plans (MIP) with low equity exposure.

While the entire 100% will be taxed as debt in the MIP strategy (even your equity exposure) in the traditional strategy, 14.3% balanced funds will be taxed as equity funds in the new strategy. In addition to tax disadvantage, MIPs also have high expense ratio.

Some investors may not be comfortable with multiple products. If they insist that you need to go only for one product, they should consider algorithm based products like ICICI Prudential Balanced Advantage Fund, Edelweiss Absolute Return Fund, among others.

Investors with low risk appetite should go with algorithm based funds, since they will do better in a downward spiral

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Top 10 Tax Saving Mutual Funds to invest in India for 2016

Best 10 ELSS Mutual Funds in india for 2016

1. BNP Paribas Long Term Equity Fund

2. Axis Tax Saver Fund

3. Franklin India TaxShield

4. ICICI Prudential Long Term Equity Fund

5. IDFC Tax Advantage (ELSS) Fund

6. Birla Sun Life Tax Relief 96

7. DSP BlackRock Tax Saver Fund

8. Reliance Tax Saver (ELSS) Fund

9. Religare Tax Plan

10. Birla Sun Life Tax Plan

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