When it comes to investments, what is right for one might not be for another. Some investors prefer the safety of deposits and longevity of gold or real estate while others prefer equity investments and complement their equity portfolio through some exposure to debt instruments. Any extreme position might be detrimental to any financial plan if the risk and investment horizon is not properly assessed. The solution lies in the age-old wisdom of diversification, often succinctly put as ‘never put all eggs in the same basket.’ In this case, these baskets could be equity, debt and precious metals or commodities like gold or silver.
Ideally, a balanced investment approach is to have adequate exposure to different baskets of asset classes. In this regard, multi asset allocation funds offer a one-stop solution. These funds fall under the hybrid category of mutual funds, and invest across asset classes. Specifically, multi asset allocation funds are required to invest at least 10% each in all three asset classes viz. equity, debt and gold as per the regulations formulated by market regulator Sebi. This creates a well-diversified portfolio, thereby balancing some of the risks that might emanate from concentrated investments.
Typically, different asset classes perform well in different economic situations. In economic conditions experiencing good growth, equities tend to perform better. In falling interest rate scenarios, bonds tend to do well, while in turbulent situations of low growth and high inflation scenarios, gold is considered a classic hedge. The aim of diversification across asset classes is to hedge the portfolio in case of a negative event for an asset class. For example, if a geo-political event results in a major drawdown in the equity markets, it is unlikely that debt and gold will also be affected to a similar extent. As a result, compared to a broader equity index, it is likely that a multi asset allocation fund’s drawdown could be lower and may deliver relatively lower returns as compared to equity-oriented funds during a bull market run.
In 2022, for example, equity returns remained relatively muted (S&P BSE Sensex returns were 4.4%) while gold turned out to be the best performing asset (delivering a 11.9% return) in India. On the contrary, in 2021, returns from gold were in the negative territory (-3.3%) while equity was the best performing asset class delivering 22% returns. This information is based on the data from BSE and World Gold Council Moreover, investing in a multi-asset allocation fund saves you, as an investor, the hassle of rebalancing your asset allocation as per changing market dynamics. If an investor makes those changes by switching investments from one instrument or scheme to another, capital gains taxes come in to play. This is not the case when the fund manager rebalances the portfolio. The fund manager also has the expertise required to rebalance the scheme portfolio as per changing situations.
When it comes to taxation for an investor at redemption, the tax treatment of multi-asset strategies depends upon the equity and debt holding of the scheme in a given financial year. If over 65% of the investments are in domestic equities, the scheme is treated as an equity scheme and gains are taxed accordingly. Otherwise, a multi-asset allocation fund is considered a non-equity fund for taxation.
For a multi-asset strategy to play out, it could take at least a few years. This is the time taken by various asset classes to go through a complete cycle. Hence, investors looking to park their funds for a short period of, say, less than 3 years should avoid these funds. These schemes make for a good addition to an investment portfolio of investors looking for exposure to different asset classes managed by professionals. Investors beginning their investment journey can also consider multi-asset funds to familiarize themselves with different asset classes available.
While you should take investment decisions based on factors affecting your unique situations, it is best to consult your financial advisor to examine the suitability of multi asset allocation funds to your portfolio.
D. P. Singh is deputy MD and chief business officer, SBI Mutual Fund.