Hybrid funds give flexibility to your investments

FUND QUERIES

I have invested Rs 10 lakh in LICMF Bond Fund and Rs 3 lakh each in Magnum Income and Templeton India Income Builder. Please suggest a portfolio with 40 per cent bond and 60 per cent equity exposure.

""Laxman Panjwani

All the three funds held by you are medium-term debt funds, and have no equity exposure. Now, in order to achieve the intended allocation, we suggest you to move your money to balanced funds. These funds maintain a minimum 65 per cent exposure to equities.

The biggest advantage of investing in a balanced fund is the benefit of automatic re-balancing. For example, if equity markets rise, and consequently the equity weightage in a balanced fund's portfolio increases, the fund manager will book profit at every rise, thus maintaining the intended balance between debt and equity allocation. This takes away the tension of consistently re-balancing your portfolio.

Moreover, hybrid funds are tax-efficient. If you have to do a similar asset allocation on your own, the re-balancing exercises will result in substantial short-term capital gains. Therefore, we would recommend that you spread your investments over two or three well-diversified equity-oriented balanced funds. In long-term, your portfolio of hybrid funds will take care of the volatility in both the equity and debt markets, and you will end-up with decent gains.

I am 52 year old and a risk-taker. I have invested in diversified equity funds, but looking at the recent high volatility market conditions, I have doubts about my investment approach. Kindly advise on how to proceed.

""Dr P V Rao

If you don't need this money in the near-term, forget about the daily ups and downs in the market. A longer holding period (at least 3-5 years) will most likely to nullify this intermittent volatility, and will help you generate decent returns. Though you feel you have penchant for risk, you have to be able to control the emotions of greed and fear, and follow some systematic asset allocation. What is lacking in your portfolio is a cushion to contain the risks. Since you are just six years away from your retirement, we would suggest you to allocate around 20 per cent of your investments in debt funds. The scorecard section of this paper contains a comprehensive list of debt funds with details about their performance.

I am looking for a fund for short-term investment of around four to six months. Which is a better option "" short-term debt fund or short-term gilt funds?

""Yogesh

Both categories of funds are ideal for short-term investments, but before taking a decision, let us weigh the various factors that can impact your choice. There are two kinds of risks associated with debt instruments "" credit risk and interest rate risk. Credit risk refers to the risk of default in the payment of coupon and the principal amount. But, since the gilts are sovereign instruments (fully backed by the government), short-term gilt funds are free of credit risk. Short-term debt funds, however, do carry such a risk.

Interest rate risk, on the other hand, refers to the risk of adverse price movements because of changes in interest rates. Bond prices and interest rates have inverse relation "" a rise in interest rates leads to a fall in bond prices. Since government securities are believed to react more sharply to changes in interest rates, they carry more interest rate risk.

On the other hand gilts, which are backed by a sovereign guarantee and are also more liquid, pay a lower coupon rate vis-à-vis corporate bonds. If the recent performance is anything to go by, the category of short-term debt funds gave a return of 6.46 per cent in the last one year, higher than the 5.31 per cent return given by short-term gilt funds as on March 19, 2007.

The standard deviation (based on the weekly returns of the past 18 months) of short-term gilt funds is slightly higher at 0.098 per cent as against the short-term debt fund's 0.062 per cent. While one cannot conclusively say which category is better, in the wake of better returns coupled with lower volatility offered by short-term debt funds, we suggest you to invest in them.

I run a small business and always have some short-term surpluses in a current account. Recently, I came to know about ultra short-term funds meant specifically for such deposits. How fast can I redeem investments?

"" Atul Ahuja

Ultra short-term funds, also known as cash funds, invest in very safe short-term instruments like treasury bills, commercial paper, certificate of deposits, call money, PSU bonds etc. One-year returns of some funds have been around 6-7 per cent. These funds are designed for quick redemptions. If you have an account in a bank, where the mutual fund can credit your redemption directly, you will get your cash the same day if you request a redemption before 10:30 am.

Some banks may also offer automated accounts, where your money gets swept into such a fund and gets automatically redeemed. If the Budget proposal to tax the dividend paid to corporate investors at an effective rate of 28.33 per cent is not passed, dividends to all corporate and individual investors will remain at 12.5 per cent plus the surcharge.