What are hybrid mutual funds? Are they better investment option compared to other mutual funds; read what experts say

Hybrid fund inflows witnessed a surge of 37.49 per cent between December 2023 and January 2024. The funds, which include categories of conservative hybrid, balanced hybrid, aggressive hybrid, dynamic asset allocation, balanced advantage, multi asset allocation, arbitrage, and equity savings funds, saw an inflow of Rs 1.21 lakh crore in the April-January period of the current financial year (FY24). Will hybrid mutual funds beat equity funds in the future? Should they be considered a good investment amid a market rise and an economic boom? know what experts say.

What are hybrid mutual funds?

Hybrid funds are mutual funds that invest in mixed categories, i.e., two or more asset classes, such as stocks, bonds, and gold. They offer investors a way to diversify their portfolio and potentially reduce risk. Sharwan Goyal, Fund Manager and Head – Passive, Arbitrage and Quant strategies, UTI AMC, said, "Hybrid funds have captured investors' interest due to their structure, which mitigates the risk associated with pure equity exposure. If you will look granularly, amongst these hybrid funds, investors are increasingly turning to asset allocation strategies such as Multi-Asset Allocation Funds and Balanced Advantage Funds. These strategies provide exposure to various asset classes within a single investment. They offer the benefit of dynamic portfolio rebalancing which balances return potential and volatility associated with a single asset class in a tax efficient way."

Types of hybrid funds

Market regulator Securities and Exchange Board of India (SEBI) has classified these funds into seven categories, as below:

Conservative hybrid funds: These funds invest primarily in debt securities, with a small allocation to equity, including 10 per cent to 25 per cent investment in equity and equity-related instruments; and 75 per cent to 90 per cent in debt instruments.

Aggressive hybrid funds: These funds invest primarily in equity securities, with a small allocation to debt. In these funds, 65 per cent to 80 per cent investment is in equity and equity-related instruments, and 20 per cent to 35 per cent, in debt instruments.

Multi asset allocation funds: These funds invest in a variety of asset classes, including equity, debt, real estate, and commodities. They offer investors a high degree of diversification, but they can also be more complex and volatile than other types of hybrid funds. They have investments in at least three asset classes with a minimum allocation of 10 per cent in each asset class.

Arbitrage funds: These funds exploit price inefficiencies between different markets or securities. These funds invest a minimum of 65 per cent in equity and equity-related instruments.

Equity savings funds: These funds invest primarily in equity securities, but they also hold some debt securities to provide stability. The required investment allocation for these funds are- a minumum of 65 per cent in equity and equity-related instruments and a minimum of 10 per cent in debt instruments.

Balanced hybrid funds: These funds invest in both equity and debt in roughly equal proportions. In this category, 40 per cent to 60 per cent investment is made in equity and equity-related instruments, and 40 per cent to 60 per cent in debt instruments.

Dynamic Asset Allocation or Balanced Advantage Fund: Investment in equity/debt that is managed dynamically (0 per cent to 100 per cent in equity & equity-related instruments; and 0 per cent to 100 per cent in debt instruments).

Will they beat equity funds in terms of performance in the future?

Deepak Jain, President & Head of Sales at Edelweiss Asset Management Limited (EAML) has expressed that any fund can beat another in a certain period of time, but assuming a long-term investment of say 7 or 10-year-plus, equity funds have the potential to significantly outperform hybrid funds, but with extra volatility. "On a risk-adjusted basis, I believe a balanced advantage fund or an agressive hybrid fund can do better," he added.

Hybrid funds have witnessed strong inflows of late. Is this trend likely to continue?

The inflows depend on different elements such as investors, funds, and markets.

Jaiprakash Toshniwal of LIC MF Asset Management said that the future trajectory of inflows into hybrid mutual funds depends on a combination of investor preferences, market trends, the fund's performance, and its ability to provide a balanced investment approach with lower volatility.

Additionally, Toshniwal expressed that the performance of equity markets has boosted hybrid funds' appeal. The balance of market exposure and lower volatility offered by hybrid funds may continue to attract investors, depending on prevailing market conditions.

When can investors go with hybrid funds instead of other types of mutual funds?

"Investors may lean towards hybrid funds during market volatility or uncertain economic conditions. However, a drawback emerges when the economy revives significantly, as the conservative equity allocation restricts potential upside gains," said Jaiprakash. 
 
"Investors seeking a middle ground between risk and stability find hybrid funds attractive in turbulent times, but they may forego potential higher returns during robust economic phases due to the moderated exposure to equities inherent in the fund's structure," he further said.
 
According to Deepak Jain, hybrid funds can become stronger in the future. "These funds are suitable for investors with a low, moderate risk appetite. It's also suitable for a time when one is not very sure about complete participation in the equity market, and these funds can be used as a buffer strategy," he said.