‘While asset allocation is advisors’ forte, BAFs are packaged scheme that allocates’

Over the years, the balanced advantage fund category has been becoming increasingly popular and grown substantially. What is that balanced advantage fund can offer to investors which hybrid aggressive funds cannot?

Balanced Advantage Funds are also known as dynamic asset allocation funds. As the name explains, they dynamically adjust the equity and debt proportion of the portfolio depending on the market situation. Usually, these types of funds undertake rebalancing monthly. The rebalancing is based on a predefined model as mentioned in the SID of respective schemes. Further, to provide benefits of equity taxation, the fund managers usually use arbitrage opportunities to keep the equity exposure above the minimum threshold.

Thus, to sum it up, Balanced Advantage funds offer adaptability to changing market conditions which Hybrid Aggressive funds don’t to the extent of BAF.

Why do you think dynamic asset rebalancing is important?

The following table sums the need for re-balancing very well

Many distributors believe that asset allocation is the prerogative of advisors. Your comment.

Asset allocation typically means spreading the investors’ funds among asset classes like equities, debt, gold, real estate etc. to diversify risk and maximize returns. Indeed, the asset allocation is the forte of advisors. However, BAFs as explained earlier is only a packaged MF scheme that allocates between equities, equity related instruments and debt. Hence asset allocation in BAFs would not be similar to the detailed asset allocation done by advisors. In fact, BAF as a component is advised by many professionals to their investors.

How does Principal Balanced Advantage Fund rebalance its portfolio?

Primarily, the equity allocation under Principal Balanced Advantage Fund is dependent on the Nifty 50 PE as mentioned in the table below:

For this purpose the month-end Trailing PE Ratio of Nifty 50 Index (NSE Nifty) will be considered.

How is the strategy of Principal Balanced Advantage Fund different?

Principal Balanced Advantage Fund is managed purely based on single parameter i.e. Price to Earnings of Nifty 50 Index. PE is a widely accepted parameter for understanding the market valuations and moreover it is an information available in the public domain. There is complete transparency in calculation of PE which is computed by a third party (the NSE) based on trailing four quarter earnings.  Additionally, we have defined bands to invest portion of portfolio in net equities. The benefit of having defined band is that the fund manager takes active decisions where to remain in the band as said above.

We typically endeavour to maintain large cap biased portfolio. When picking the stock for investments, we are looking to invest with a 2-3 years’ time frame and visibility.  This allows us to manage short term fluctuations in the operation of the companies and let the investment thesis play out.

Lastly on the management of Debt portion, we intend to keep the average maturity in the range between to that of Low Duration to  Short Term fund category.  We also endeavour to invest in high quality short term Corporate Bonds and Money Market Instruments with tactical allocation to government securities.

What has been the historical equity allocation movement of Balance Advantage Fund

Source: Internal Analysis and www.nseindia.com

How has the fund performed across market cycles?

While analysing the performance of any fund in BAF category, one should not look at returns in isolation. The objective of a BAF is not to provide highest returns but to ensure returns are generated with comparatively lesser risk. Hence, it is advised to consider the risk parameters like Std Dev and Beta at least while considering BAF. Principal BAF’s compounded returns since inception (Dec 2010) till Apr 2019 is 9.15% vis-à-vis Nifty 50 TRI is 9.79%. While the average monthly allocation to equity of the fund since inception is 52.48%. Moreover, while generating these returns, the volatility of Principal BAF is 9.04% vs 15.24% of Nifty 50 TRI for the period. Similarly, the beta is only 0.58 compared to Nifty 50 TRI. Hence, the risk reward equation is generally attractive.

Which category of investors should invest in balanced advantage funds?

BAFs are ideal for investor who seek to participate in equities but do not wish to take high risks. This category investors can be first time mutual fund investors or the ones who are in late stage in their career. Usually these investors would like some equity exposure but within risk limits. A BAF would automatically dial down the equity risk when the markets are expensive and vice versa. The portfolio rebalancing would happen without any effort on the part of the investor.