Hybrid funds invest in a combination of asset classes such as equity, debt and gold. The combination of asset classes used will depend upon the investment objective of the fund. The risk and return in the scheme will depend upon the allocation to each asset class and the type of securities in each asset class that are included in the portfolio. The risk is higher if the equity component is higher. Similarly, the risk is higher if the debt component is invested in longer-term debt securities or lower rated instruments.
Debt-oriented Hybrid funds invest primarily in debt with a small allocation to equity. The equity allocation can range from 5 percent to 30 percent and is stated in the offer document. The debt component is conservatively managed to earn coupon income, while the equity component provides the booster to the returns.
Monthly Income Plan is a type of debt-oriented hybrid fund that seeks to declare a dividend every month. There is no guarantee that a dividend will be paid each month.
Multiple Yield Funds generate returns over the medium term with exposure to multiple asset classes, such as equity and debt.
Equity-oriented Hybrid funds invest primarily in equity, with a portion of the portfolio invested in debt to bring stability to the returns. A very popular category among the equity-oriented hybrid funds is the Balanced Fund. These schemes provide investors simultaneous exposure to both equity and debt in one portfolio. The objective of these schemes is to provide growth and stability (or regular income), where investments in equity instruments are made to meet the objective of growth while debt investments are made to achieve the objective of stability. The balanced funds can have fixed or flexible allocation between equity and debt. One can get the information about the allocation and investment style from the Scheme Information Document.
Capital Protected Schemes are close-ended schemes, which are structured to ensure that investors get their principal back, irrespective of what happens to the market. This is ideally done by investing in Zero Coupon Government Securities whose maturity is aligned to the scheme’s maturity. (Zero coupon securities are securities that do not pay a regular interest, but accumulate the interest, and pay it along with the principal when the security matures).
As detailed in the following example, the investment is structured, such that the principal amount invested in the zero-coupon security, together with the interest that accumulates during the period of the scheme would grow to the amount that the investor invested at the start.
Suppose an investor invested Rs. 10,000 in a capital protected scheme of 5 years. If 5-year government securities yield 7 percent at that time, then an amount of Rs. 7,129.86 invested in 5-year zero-coupon government securities would mature to Rs. 10,000 in 5 years. Thus, by investing Rs. 7,129.86 in the 5-year zero-coupon government security, the scheme ensures that it will have Rs 10,000 to repay to the investor in 5 years.
After investing in the government security, Rs 2,870.14 is left over (Rs. 10,000 invested by the investor, less Rs. 7129.86 invested in government securities). This amount is invested in riskier securities like equities. Even if the risky investment becomes completely worthless (a rare possibility), the investor is assured of getting back the principal invested, out of the maturity money received on the government security.
Some of these schemes are structured with a minor difference – the investment is made in good quality debt securities issued by companies, rather than Central Government Securities. Since any borrower other than the government can default, it would be appropriate to view these alternate structures as Capital Protection Oriented Schemes rather than Capital Protected Schemes.
It may be noted that capital protection can also be offered through a guarantee from a guarantor, who has the financial strength to offer the guarantee. Such schemes are however not prevalent in the market.
Some of the hybrid funds are also launched as Asset Allocation Funds. These funds do not specify a minimum or maximum limit for each of the asset classes. The fund manager allocates resources based on the expected performance of each asset class.
Arbitrage funds take opposite positions in different markets / securities, such that the risk is neutralized, but a return is earned. For instance, by buying a share in BSE, and simultaneously selling the same share in the NSE at a higher price. Most arbitrage funds take contrary positions between the equity market and the futures and options market. (‘Futures’ and ‘Options’ are commonly referred to as derivatives. These are designed to help investors to take positions or protect their risk in some other security, such as an equity share. They are traded in exchanges like the NSE and the BSE.
Although these schemes invest in equity markets, the expected returns are in line with liquid funds.
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