What should investors know before investing in multi-asset funds?

The Indian mutual fund industry has been buzzing with new fund offerings, especially in the multi-asset allocation category. Over the past couple of years, more than a dozen new funds have hit the market from big players such as Aditya Birla, Kotak, and many others. This surge comes as stocks, bonds and gold have been performing strongly, prompting investors to reconsider their investment allocation.

Currently, there are 23 actively-managed multi-asset funds in India (excluding fund-of-funds), and they’re overseeing around ₹70,000 crore in assets. Managing investments across assets for the best possible returns can be tricky, which is why asset-allocation funds are catching the eye of long-term investors as these funds offer diversification in a single product. But before diving in, it’s important to grasp how these funds distribute investments across different assets and their tax implications.

Fund methodologies

Multi-asset allocation funds spread investments across equity shares, bonds, and commodities such as gold and silver, each receiving at least 10 per cent allocation. They also invest in real estate and infrastructure via REITs and InvITs, while the maximum limit is set at 10 per cent. These assets, with low or negative correlations, offer diversification, reducing overall portfolio volatility and enhancing returns across different market conditions. This further helps to capture upside potential while mitigating downside risk.

Various fund houses employ distinct methodologies for determining asset allocation. Typically, these decisions are influenced by prevailing market conditions, fund house frameworks like Growth at a Reasonable Price (GARP), and their preferred investing styles such as value and quality. However, certain fund houses have devised their own proprietary models for equity allocation. For example, HDFC fund’s model utilises factors like trailing 12 months price-to-earnings ratio (TTM PE), one-year forward PE, TTM price to book ratio (PB), earnings yield, and G-Sec yield to guide equity allocation. Other fund houses adopting model-driven allocation include UTI, Motilal Oswal, WhiteOak Capital (WOC), Shriram, and Kotak. Certain fund houses have dynamic asset mix, which undergoes regular review and rebalancing, while some have fixed allocations (typically ranging between 10 per cent and 80 per cent). Although funds may claim to be flexi-/multi-cap, they often exhibit a bias towards large-cap investments.

Moving beyond domestic assets, fund houses including Motilal Oswal, Nippon India, Aditya Birla, WOC, Kotak, DSP, Bandhan, and Mirae Asset also offer exposure to international equity within multi-asset schemes. Whether domestic or international, both anyway constitute the broader equity asset class, except that there is an added element of geographical diversification.

Taxation

Following the amendments to the Finance Bill in 2023, hybrid funds, including balanced, multi-asset, and dynamic asset allocation funds with equity holdings ranging from 35 per cent to 65 per cent, are the only ones to still qualify for indexation benefits. Indexation allows investors to adjust the purchase price of an investment to reflect the impact of inflation, thereby reducing long-term capital gain (LTCG) and lowering tax liabilities. Considering schemes inclining towards debt, short-term capital gain (STCG, held for less than three years) are taxed according to the individual’s income tax-slab rate. For investments held for three years or more, LTCG is taxed at 20 per cent with indexation benefit. Fund houses offering debt taxation benefits include Quant, Motilal Oswal, Nippon India, WOC, Edelweiss, DSP, BOI, Mahindra Manulife and Quantum.

On the other hand, if the equity component exceeds 65 per cent, investors can benefit from equity taxation, with STCG (held less than a year) taxed at 15 per cent, while the LTCG (held for more than a year) exceeding ₹1 lakh taxed at 10 per cent. Over a dozen fund houses offer this equity taxation advantage, with prominent ones being ICICI Prudential, HDFC, SBI, Axis, and Tata.

Takeaways

Multi-asset allocation funds aim to balance risk and return by blending assets with low correlations, thereby providing diversification benefits and stabilising portfolio performance from market volatility. However, sticking to a fixed asset allocation strategy, particularly one that rigidly anchors equity levels, can limit the benefits of asset rotation, potentially diverging from the investor’s original goals. Lastly, the tax treatment depends on the fund’s exposure to equities.

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