Why do Some Investors Prefer Hybrid Funds Over Equity?

Some investors invest money based on market sentiment.

For example, they look out for periods when equity is doing well or when debt has a bright prospect. As a result, they lose out on capital appreciation.

To make money, you need to invest at a low price and sell at a high price.

You probably know this concept.

However, the reality is not the same and is unlikely to change anytime soon.

A lot of investors prefer hybrid funds over other categories, simply because they invest in both equity and debt, which moderates the risk.

Keeping this in mind, in this article, we seek to discuss hybrid funds vs equity and analyse which is better for you.

Read on!

Let us begin our talk by quickly covering what is Hybrid vs Equity funds.

Equity funds

As the name suggests, these are mutual funds that invest the majority of their corpus in equity and equity related instruments.

Given, that they invest in equities, they tend to have the highest degree of risk among mutual funds.

There are several types of equity funds – small-cap, mid-cap, large-cap, multi-cap etc.

When are equity funds suitable?

Assume you are 23 years old and you plan to save for your retirement which is due in 35 years from now.

In this case, given your horizon is long term you should opt for pure equity funds.

A SIP of Rs. 2500 per month for 35 years in a small-cap equity fund would fetch you Rs 3.71 crore.

Hybrid funds

These funds invest in both debt and equity instruments.

The debt component limits the risk involved while the equity component provides wealth creation.

These funds are a good investment when you believe the interest rate to go down while the equity market to go up.

Hybrid funds are of two types: Debt Oriented, also known as Monthly Income Plans (MIPs) and Equity Oriented Fund.

Now comes the main question, which is better?

Well, there is no direct answer as it depends on multiple factors such as your objective, investment horizon, and risk appetite, among other things.

Let us show you how you need to determine which fund will suit you.

When are hybrid funds suitable?

Assume you are 25 years old and you plan to purchase a car in 5 years’ time that is worth Rs 4,00,000 and you can save a maximum of Rs 5,000 per month.

In this case, you can invest in balanced funds so that your investment is not exposed to high risk and volatility.

While the equity component provides you with the returns and capital appreciation when the equity market is rising, the debt component safeguards your risk by constraining the downward movement.

Now the question arises, why hybrid funds?

Hybrid funds are sought after instruments by many investors because they are safer bets than pure equity funds.

In addition, these funds provide higher returns when compared to debt funds.

So, by nature, a hybrid fund is a favourite instrument for a conservative investor who doesn’t want to get exposed to equity completely.

We hope you get a fair idea about when you should invest in hybrid funds and why.

After having discussed the usage, let us quickly cover the types of hybrid funds in greater detail so that you are in a position to take decisions by the end of this article.

What are the Types of Hybrid Funds?

Hybrid funds can be differentiated depending on their asset allocation. While some hybrid funds have higher equity components, others have higher debt components.

Equity-oriented Hybrid Fund

Also known as Balanced funds, these are the most popular type of hybrid funds.

These funds invest at least two-thirds of their portfolio in equity and equity-oriented instruments.

This enables the fund to be treated as an equity fund for taxation purposes. The remainder of the portfolio is invested in debt instruments.

These funds are suitable for investors who have a moderate risk appetite but are looking for better returns than debt-oriented funds and are willing to invest in equity but not expose themselves to high risk.

Debt-oriented Hybrid Funds

These are also known as Monthly Income Plans (MIP) and these funds predominantly invest in debt instruments to the tune of 80-85% with the remainder in equities.

This enables these funds to generate higher returns when compared to debt funds. MIPs provide regular income to investors in the form of dividends.

MIP provides the flexibility of dividend payout that can be monthly, quarterly, half-yearly or annually.

These funds are suitable for investors who are willing to take small equity exposure but seek to remain protected in terms of capital invested.

In conclusion

To conclude, let us tell you that there is no right or wrong regarding the investment instrument. It depends on your objective of investment, investment horizon, risk appetite, age, and many more factors.

Should you wish to know more about investments in mutual funds, feel free to connect with us.

In case you have any queries with respect to your risk appetite, feel free to drop in a line and we shall be glad to respond.

Until then,

Happy investing!