What is Hybrid Mutual Fund?

Hybrid mutual funds invest in various asset classes such as equity, fixed-income securities, etc. The proportion of the asset class depends on the hybrid mutual fund type and the fund’s investment objective. These funds help you to diversify your investments and, at the same time, reduce the risk. 

This article covers: 

• Hybrid Mutual Fund Meaning
• Hybrid Mutual Funds Types
• Hybrid Mutual Funds Advantages and Disadvantages
• Hybrid Mutual Funds Taxation
• Difference Between Hybrid Fund and Balanced Fund
• Top 10 Hybrid Mutual Funds (Data as of 24 March 2023)
• What is Hybrid Mutual Fund- Quick Summary
• What is Hybrid Mutual Fund- FAQ

Hybrid Mutual Fund Meaning 

A hybrid mutual fund is a type of investment that combines two or more different asset classes, such as stocks and bonds. Hybrid funds also provide greater flexibility when it comes to managing risk since the fund managers of the fund can adjust their investments depending on market conditions. The main objective of the fund is to offer inflation-beating returns. 

Hybrid Mutual Funds Types

Based on their asset allocation, hybrid funds come in a variety. Investors should pick a hybrid fund that fits their investment goals, time horizon, and risk tolerance. Let’s have a look at some of the types of Hybrid Funds:

• Aggressive Hybrid Fund
• Conservative Hybrid Fund
• Dynamic Asset Allocation Fund
• Multi-Asset Allocation Fund
• Arbitrage Fund
• Equity Saving Fund

Aggressive Hybrid Fund 

An aggressive hybrid mutual fund is an investment vehicle that invests more than 65% in stocks and the remaining in bonds and other investments. This type of fund has a higher risk than other hybrid funds because it invests more in equity. 

This type of fund aims to generate higher returns by taking on greater risks. Aggressive hybrid mutual funds are suitable for investors with a high-risk tolerance and who want to maximize their potential return on investment over the long term.

Conservative Hybrid Fund 

The Conservative Hybrid Fund invests more than 65% in fixed-income securities such as government securities, corporate bonds, etc, and the rest in equity. This type of fund allows investors to diversify their portfolios while maintaining safety by investing in more fixed-income securities. 

It also provides an opportunity for investors to benefit from market movements without taking on too much risk. This fund suits those who want to invest for 2 to 3 years. Since the fund invests majorly in debt securities, they are classified as debt funds for taxation. 

Dynamic Asset Allocation Fund

This fund invests in different asset classes based on the market condition. For example, if the stock market is undervalued, the fund will increase its allocation to equity. On the other hand, when the stock market is overvalued, the fund will increase its allocation to fixed-income securities. 

These funds are actively managed by the fund managers, and the asset allocation is done by proper research. Investors who want to invest for a minimum of 4 to 6 years can invest in this fund. 

Multi-Asset Allocation Fund

Multi-asset allocation funds invest at least 10% in 3 different asset classes. These asset classes can be equity and equity; the other asset class can be real estate or gold. These funds are less risky as they invest in multiple asset classes. Investing in this fund suits those with less risk tolerance and can invest for at least 3 years. 

Arbitrage Fund

Arbitrage funds are a type of hybrid mutual fund that aim to generate returns by exploiting the price difference of a security in different markets. The fund manager of an arbitrage fund uses a strategy of buying a stock in the cash market and simultaneously selling it in the futures market or vice versa. The price difference between the two markets represents the profit that the fund can earn.

Equity Savings Fund

These funds typically invest in a mix of equity, debt, and cash or cash equivalents. They aim to provide investors with a balance of capital appreciation and income generation while also minimizing downside risks. By investing in a mix of assets, these funds can provide a more stable return profile than equity funds while still offering the potential for higher returns than traditional debt funds.

Hybrid Mutual Funds Advantages and Disadvantages

Hybrid mutual funds invest in a mix of debt and equity instruments which is both an advantage and a disadvantage. The advantage is that it allows investors to invest in low-risk debt instruments and some equities. But the disadvantage is that investments in debt instruments are not suitable for investors who want higher returns like equity funds. 

Advantages:

• Hybrid funds invest in a combination of equity and fixed-income securities, which helps diversify the portfolio and spread the risk across multiple asset classes.
• These funds offer moderate risk, making them suitable for investors who want to earn better returns than fixed deposits or bonds without exposing themselves to the volatility of pure equity funds.
• Hybrid funds are managed by professional fund managers with the expertise and knowledge to allocate the assets in the right proportion to achieve the investment objectives.

Disadvantages:

• Hybrid funds are less volatile than pure equity funds, which means they may not deliver high returns during market rallies. 
• Since hybrid funds invest in equity and debt securities, they have higher expense ratios than pure debt funds.
• The tax treatment of hybrid funds depends on their asset allocation. Equity-oriented hybrid funds are taxed as equity funds, while debt-oriented funds are taxed as debt funds, which can impact the returns earned by investors.

Hybrid Mutual Funds Taxation

Hybrid mutual funds’ taxation rules differ for each type of hybrid fund because they hold different percentages of equity and debt instruments. Here is the complete information on the taxation rules of the hybrid mutual funds that are applicable from April 1st, 2023:

• Equity-oriented hybrid funds:

If the hybrid fund has an equity allocation of 65% or more, it is treated as an equity fund for tax purposes.

• Short-term capital gains (STCG) tax: If an investment in an equity-oriented hybrid fund is held for less than one year, it is considered a short-term investment, and gains arising from it are taxed at 15% plus a 4% cess.
• Long-term capital gains (LTCG) tax: If an investment in an equity-oriented hybrid fund is held for more than one year, it is considered a long-term investment, and the investor has to give 10%  tax plus a 4% cess, provided the gains are above INR 1 lakh.

• Debt-oriented hybrid funds:

If the hybrid fund has an equity allocation of less than 65% but more than 35%, it is treated as a debt fund for tax purposes.

• Short-term capital gains (STCG) tax: If an investment in a debt-oriented hybrid fund is held for less than three years, it is considered a short-term investment, and gains arising from it are added to the investor’s income and taxed at the applicable slab rate plus a 4% cess.
• Long-term capital gains (LTCG) tax: If an investment in a debt-oriented hybrid fund is held for more than three years, it is considered a long-term investment, and gains arising from it are taxed at 20% with the benefit of indexation, plus a 4% cess. 

• Debt-oriented hybrid funds (Less than 35% in equity):

If the hybrid fund invests a maximum of 35% of its assets into the equity instruments, the capital earnings are taxed according to the investor’s income tax slabs, whether an STCG or LTCG. Also, in this type of fund, no indexation benefits will be provided to the investors on the LTCG taxation. 

• Dividend Income:

From April 1, 2020, dividends earned from hybrid mutual funds are taxed as per the investor’s income tax slab rate. Additionally, dividends above INR 5,000 attract a 10% tax deduction at source (TDS).

Difference Between Hybrid Fund and Balanced Fund

The major difference between a hybrid fund and a balanced fund is that it typically invests around 40-60% of its portfolio in equity and the remaining portion in debt instruments. On the other hand, a hybrid fund does not have any predefined asset allocation, which can vary depending on market conditions and the fund manager’s outlook. 

Some other important differences between hybrid funds and balanced funds are: 

Hybrid Fund vs Balanced Fund – Rebalancing Asset Composition

Hybrid funds have a flexible asset composition that can vary based on market conditions and the fund manager’s objectives, allowing them to adjust the allocation as they see fit. In contrast, balanced funds rebalance their asset composition whenever there is a significant deviation from a predetermined ratio, with the primary goal of providing a balanced portfolio offering both capital appreciation and regular income to investors.

Hybrid Fund vs Balanced Fund – Fund’s Objective

Both hybrid and balanced funds aim to provide investors with a balanced investment portfolio that generates steady returns with lower volatility than an equity mutual fund. However, the specific objective and investment strategy may vary between individual funds, so it’s important to read the fund’s prospectus and understand its investment approach before investing.

Hybrid Fund vs Balanced Fund – Returns

Balanced funds typically have a fixed equity-debt allocation ratio, such as 60:40, while hybrid funds can have a flexible allocation that can change based on market conditions and the fund manager’s discretion. As a result, hybrid funds may offer higher returns than balanced funds during a bull market but may underperform during a bear market.

Hybrid Fund vs Balanced Fund – Risks

Hybrid funds, which invest in a mix of asset classes, can have varying risk profiles, such as a higher risk with more equity allocation or a lower risk with more debt allocation. In contrast, balanced funds maintain a predetermined allocation between equity and debt, resulting in a more balanced risk profile; while they carry some risk due to equity exposure, their overall risk is generally lower than equity-oriented hybrid funds.

Hybrid Fund vs Balanced Fund – Tax Treatment

Long-term capital gains (LTCG) on equity-oriented funds are subject to taxation at 10% if the gains exceed Rs. 1 lakh in a 12-month period. Short-term capital gains (STCG) on equity-oriented funds held for less than one year are subject to taxation at 15%.

Top 10 Hybrid Mutual Funds (Data as of 24 March 2023)

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What is Hybrid Mutual Fund- Quick Summary

• Hybrid mutual funds combine two or more different asset classes, such as stocks and bonds, to provide investors with diversification and the potential for higher returns.
• Aggressive hybrid funds invest more in equity and have higher risks, while conservative hybrid funds invest more in fixed-income securities and are suitable for short-term investments.
• Dynamic asset allocation funds adjust their investments based on market conditions, while multi-asset allocation funds invest in at least 3 different asset classes.
• Arbitrage funds aim to generate returns by exploiting price differences in different markets, while equity savings funds provide a balance of capital appreciation and income generation.
• Hybrid funds are managed by professional fund managers and offer moderate risk, making them suitable for investors who want better returns than fixed deposits or bonds.
• Hybrid funds have higher expense ratios than pure debt funds, and their tax treatment depends on asset allocation.
• Equity-oriented hybrid funds are taxed as equity funds, and debt-oriented hybrid funds are taxed as debt funds.
• The asset allocation of a balanced fund is fixed, while a hybrid fund’s asset allocation can vary based on market conditions and the fund manager’s outlook.
• Hybrid funds can offer higher returns than balanced funds during bullish market conditions but may underperform during a bear market.
• Long-term capital gains (LTCG) on equity-oriented funds are subject to taxation at 10%, and LTCG on debt-oriented funds are taxed at 20% with indexation.
• Short-term capital gains (STCG) on equity-oriented funds are subject to taxation at 15%, and STCG on debt-oriented funds are taxed at the investor’s income tax slab rate.
• Some of the best hybrid funds include Quant Absolute Fund Direct-Growth, ICICI Prudential Multi-Asset Fund Direct-Growth, HDFC Balanced Advantage Fund Direct Plan-Growth, Kotak Equity Hybrid Fund Direct-Growth, etc.

What is Hybrid Mutual Fund- Frequently Asked Questions