Today, stock market valuations are not particularly cheap, while debt markets offer the chance to lock into attractive yields. For investors who want to protect against steep downside in stocks, while benefiting from high rates, aggressive hybrid funds make for a good choice. These funds invest over 65 per cent of their assets in equities and upto 35 per cent in debt. As they are treated as equity funds for taxation purposes, bonds housed in these funds are subject to equity taxation. Unlike individuals, the fund doesn’t incur taxes on periodic rebalancing of its portfolio to achieve the 65:35 mix.

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We ran a filter on the aggressive hybrid category to identify funds with three features. One, we looked for a high allocation to large-cap stocks. Large-caps today offer better value than over-heated mid and small-caps, and therefore may lose less in the event of a correction. Two, we looked for funds biased towards the value style, as value stocks may protect downside better than growth stocks. Three, we looked for funds with debt strategies that make the most of duration or corporate bond spreads, without taking on credit risks. Three funds fit the bill.

ICICI Pru Equity & Debt Fund

This fund stands head and shoulders above the category both on trailing returns and 3-year rolling returns since 2013 (see table). Its average returns as well as maximum returns have been higher than peers.

By end-August, this fund had a 67 per cent allocation to equities, 24 per cent to debt and rest in REIT and cash equivalents. The equity portion had 85 per cent invested in large-caps, 13.5 per cent in mid-caps, with the residual portion in small-caps. The equity holdings display a value bias, with NTPC, ICICI Bank, Bharti Airtel, ONGC, Reliance in the top five. Financials and energy were the top sectors.

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On the debt side, this fund maintains high credit quality, investing mainly in sovereign or money market instruments, while actively using duration for better returns. In end-August, the debt portfolio carried a fairly long average maturity of 6.6 years. About 38 per cent of the portfolio was in g-secs mainly floating rate bonds and 44 per cent was invested in short-term corporate instruments, both offering a hedge against rate risk. The YTM (yield to maturity) was 7.64 per cent. This two- decades old fund is managed by seasoned managers Sankaran Naren and Manish Banthia with three co-managers. The fund has a relatively high expense ratio at 1.69 per cent for the regular plan and 1.12 per cent for the direct plan.

HDFC Hybrid Equity Fund

This fund has sharply improved its performance in the last three years, though it has had more loss-making periods in the past decade.

This fund had a 67 per cent equity allocation and 30 per cent debt allocation with a low cash component by end-August. The equity portion has a 76 per cent exposure to large-caps, while mid-caps account for 17.6 per cent. The value orientation is evident from financials and technology being top sectors with HDFC Bank, ICICI Bank, ITC, Reliance, L&T, Infosys making up the top holdings.

On the debt side, this fund takes active duration calls while avoiding credit risk. In August though, it owned a more AAA-rated corporate bonds (18.5 per cent) than g-secs (9.5 per cent). The average maturity was 5.4 years and the portfolio YTM was 7.59 per cent. This fund is managed by seasoned manager Chirag Setalvad and Anupam Joshi. The TER is high for the category at 1.71 per cent for the regular plan and 1.08 per cent for the direct plan.

SBI Hybrid Equity Fund

This fund has managed to deliver a smoother journey than its peers, with good average returns and no loss-making 3-year periods in the past decade.

This fund had a higher equity allocation than peers by end-August at 76.8 per cent, with debt making up 17.6 per cent. The equity portion is invested to the extent of 81 per cent in large-caps, with 18.1 per cent in mid-caps. This fund is managed in a quality style. Its top stock holdings – HDFC Bank, ICICI Bank, Bharti Airtel, SBI and Infosys – have a value bias, but the fund owns smaller positions in high-PE quality stocks such as Divi’s, Bajaj Finance, Shree Cement and so on. The fund had a much higher financial services exposure (35 per cent) than peers followed by healthcare at 6 per cent.

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On the debt side, the fund features more corporate bonds (9.6 per cent) than sovereign bonds (7.8 per cent) with about 4 per cent in AA-rated corporate bonds. The fund seems to rely more on accruals than duration to generate returns currently, with average maturity at 3.3 years. Healthy corporate bond spreads at present reflect in the portfolio YTM of 7.7 per cent. Its TER is more economical than peers, with the regular plan at 1.44 per cent and direct at a reasonable 0.77 per cent. The fund is managed by R Srinivasan and Dinesh Ahuja, both with over two decades experience.

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