Ajit Menon, EVP and Head of Sales & Marketing, DSP BlackRock MF talks about newly launched Dynamic Asset Allocation Fund (DAAF).

How does the DSP BlackRock Dynamic Asset Allocation Fund work?

The fund endeavours to dynamically manage the asset allocation between the specified equity mutual funds schemes and debt mutual funds schemes of DSP BlackRock Mutual Fund, based on the relative valuation of equity and debt markets. The scheme has an active approach of achieving tactical asset allocation based on the relative attractiveness of equity and debt markets based on Yield Gap model. As a result of this automatic rebalancing of portfolios, not only would the fund aim for better returns, but also seeks to limit downside for investors during market downturns. Essentially, the scheme would be suitable for investors looking at long-term wealth creation.

The scheme assesses market conditions using the Yield Gap metric. The Yield Gap ratio is the ratio of debt market yield to equity market yield. 10Y G-Sec yield is used as the proxy for debt market yield, while earnings yield of equity markets is simply the reciprocal of the Nifty Price/Earnings ratio. By evaluating the ratio of these two yields, one can assess whether equity markets are overpriced or underpriced relative to debt markets. The model also considers the Modified Yield Gap ratio, which uses 1Y G-Sec yield in the numerator.

How did the idea of launching DSPBR Dynamic Asset Allocation Fund emerge? Was there a demand for such product in the market?                             

There is a need for a product that offers asset allocation on a dynamic basis. Many investors today may find investing a challenging proposition as they can get confused by market volatility. Getting the market timing correct can be daunting even for seasoned investors. We have seen that market movements can be driven by sentiment and not necessarily on fundamentals. I feel that most products in the market tend to look at equity and various parameters around equity as an asset class and then decide on the allocation. There is a need for a product that also gives equal weightage to interest rates in the economy alongside the earnings which you get from the equity to make that allocation decision and that’s what is unique about this fund. The DSP BlackRock Dynamic Asset Allocation Fund (DAAF) will cut away all the noise and look at the fundamental rates in the system both the interest rates as well as earnings.

Can you take us through the allocation of this fund based your study of the past 13 years?

The data is pretty interesting. During January 2008 when the market was at a peak this model had suggested an allocation of only 30% in equity. In 2004 the suggested equity allocation was 90% for the full year which came down slowly and in January 2008 it was 30%. The interesting thing is that by the time when we moved from 2008 to 2009 the equity allocations were down and by September when the Lehman crisis broke the model started shifting to equity and in February 2009 it was back to 90% in equity.

This model in the past has demonstrated that it can move reasonably quickly in the allocation it has to a higher allocation to equity if the fundamentals would definitely improve. In fact if the fundamentals do improve the model in the past has proved that it can move from a 10% in equity to a 60%-70% in 5-6 months time which it has done in the past. Or it can move from a 10% to a 90% as well in 8-9 9-10 months time frame like it did in the early 2008 to early 2009 phase.

What would be the asset allocation now?

The model is suggesting that we should be 10% in equity at this juncture. We expect some volatility in the first six months of 2014. The markets are expected to do better in early 2015. The allocation was the same way back in January 2001 and by November 2001 it was 70% in equity. It was 10% in April 2008 and by the time we were in January 2009 it was 70% in equity.

What kind of investors is this fund suited for?

This fund is suited for investors with a three to five year time horizon. Those who are waiting in the sidelines can consider investing in this fund to enter the market. One core part of client’s portfolio should be in this fund. It’s an all-weather fund.

Is there a minimum allocation that the fund will have in equity and debt at all points in time?

Yes, the fund will maintain a minimum of 10% allocation in debt and equity funds each. It can invest up to 90% in equity funds and debt funds of DSP BlackRock Mutual Fund. We have back tested the model by considering the market performance since the last 13 years.

How effective it would be in protecting the downside?

The fund has a great potential to protect the downside when the market is in a bearish phase. For instance, based on the Yield Gap model, the investment made by the Fund would have delivered a return of -12% return in calendar year 2008 when the Nifty was down -51.8%. In 2011 when the Nifty was down -25% this fund had posted a return of 0.7%. So the asset allocation is working in its favour.

Which are the underlying funds where this fund will invest in?

As of now, the fund will invest in DSP BlackRock Equity Fund (DSPBREF) and DSP BlackRock Top 100 Equity Fund (DSPBRTEF). On the debt side, the underlying funds are DSP BlackRock Strategic Bond Fund and DSP BlackRock Short Term Fund. Further, the Fund has a provision to invest in DSP BlackRock Focus 25 Fund and/or DSP BlackRock Opportunities Fund and/or DSP BlackRock India T.I.G.E.R Fund (The Infrastructure Growth and Economic Reforms Fund), equity schemes of DSP BlackRock Mutual Fund and/or DSP BlackRock Money Manager Fund and/or DSP BlackRock Banking & PSU Debt Fund and/or DSP BlackRock Income Opportunities Fund debt schemes of DSP BlackRock Mutual Fund.

The fund (DSPBR Dynamic Asset Allocation Fund) will invest the equity allocation in both equity funds in equal proportion. If Rs. 50 is allocated to equity then Rs. 25 will go in DSPBRTEF and the remaining will go in DSPBREF, provided that the aforesaid allocation shall not be more than 20% of the net asset value of DSPBREF and DSPBRTEF

How will this fund perform well if the underlying funds don’t perform?  

We have observed that over the long term, asset allocation neutralizes the impact of the choice of funds. We looked at the performance of funds having a corpus of Rs 1000 crore and more over a ten year period. We looked at the best and worst performing schemes to the see the divergence in the range of returns versus our funds. The difference between the best performing funds and our funds was not much. Asset allocation is more important than the kind of fund you select. We believe that if you have got the asset allocation right at the right proportion at the right time you don’t have to worry about the underlying fund.

Shouldn't asset allocation be left to distributors?

There is a large portion of distributors who are telling us the reverse. Our investors are saying that if fund managers are so intelligent then why can’t they help us in getting out of equity at the right time. We all are good at telling people when to enter market. But it is very tough to tell people when to get exit equities. We felt that the active approach of the fund with a built-in advice model will resonate well with investors. A large chunk of advisors and investors are looking for this kind of fund.

Wouldn't frequent change in asset allocation increase the portfolio turnover ratio and in turn the cost of the fund?

When you look at the observation period for the past 13 years, there were only about 47 instances when it triggered an asset allocation. So the portfolio turnover ratio won’t be high. The asset allocation is going to happen in phases.