Multi Asset Allocation Funds

‘Do not put all your eggs in one basket’. That’s an advice that is as old as time. However, when it comes to stocks, diversification may not be an easy exercise. After all, if the market goes down, stocks may go down together irrespective of their attributes such as large cap or small cap, value, or growth etc.

It follows logically that investing across multiple assets can be a good idea. Especially asset classes that are negatively correlated. A negative correlation means that if one asset goes up, the other will go down and vice versa.

But when it comes to mutual fund investing, the choices can still leave many investors confused.

For instance, there are hybrid funds that diversify their investments across debt and equity. These funds can take on any of the names below depending on the percentage of portion allocated to equity:

• Conservative (low equity portion)

• Balanced (nearly equally split between equity and debt)

• Aggressive (high equity portion)

Then there are dynamic asset allocation funds, where the portion allocated to either equity or debt may fluctuate depending on the fund manager’s view of the asset class. However, these funds tend to focus on sizing up the correct asset allocation, which can differ widely. Besides, these funds focus mostly on debt and equity.

What if there was a fund that was “multi asset”, in that it invests across Indian equity, international stocks, debt, gold, even REITS (real estate investment trusts) or other commodities?

After all, as a Vanguard study noted, 90% of a portfolio’s returns come from its asset allocation, not how well one times the market.

Such a fund does exist, and true to its name, it is called a ‘Multi Asset Allocation Fund’.

Here, then, are some common questions that you may have about a Multi Asset Allocation Fund.

If you had remained invested in equities during the global financial crisis of 2008 or the COVID crash, your portfolio would have suffered a deep loss. As you can see in the chart below, a large-cap portfolio (represented by the Nifty) fell 59% and 38%, respectively, during the GFC and COVID crash. Diversifying across large (50%), mid (25%) and small cap (25%) stocks would not have helped either as such a portfolio still fell 65% and 38%, respectively.

Some investors may think diversification across factor attributes such as value, quality, low volatility or alpha may help during downturns. But a portfolio split evenly between large caps and stocks that score well on alpha (or potential to provide excess returns), quality, value and low volatility would not have helped either, as such a portfolio also fell by 60% and 37%, respectively.

The below chart shows that an equity-only portfolio may not offer good diversification and that to ensure better risk control, exposure to multiple asset classes may be warranted.

If you had invested across several asset classes, such as equity, debt and gold, your portfolio loss would have gotten comparatively cushioned, as you can see below graph.

A Multi Asset Allocation Fund has opportunities to invest across multiple asset classes. The correlation between these assets helps the performance of such funds. As you can see in the below table, Indian debt is negatively correlated with Indian equities, gold (in rupee terms) and international equities. Similarly, Indian equities are negatively correlated with gold and have a weak positive correlation with international equities. Gold has no correlation with international equities.

This allows a fund manager to create a portfolio where one asset can help deliver returns when the other is underperforming.

A Multi Asset Allocation Fund will be taxed as below:

• If equity exposure is more than 65%, it will be treated as an equity fund (15% short-term capital gains tax if the holding period is less than one year; 10% long-term capital gains tax on profit above Rs 1 lakh)

• If equity exposure is between 35% and 65%, short-term capital gains (holding period less than 3 years) will be taxed at the personal income tax rate while long-term capital gains will be taxed at 20% with indexation benefit. If a fund has an indexation benefit, the investor’s purchase price will be adjusted for inflation when a unit is sold. For instance, if a unit is purchased at Rs 100 and sold at Rs 200 four years later (resulting in tax on the profit of Rs 100), its purchase price will be considered Rs 126 if inflation stood at an average of 6% during those years.

While the equity fund treatment is most favourable, the second treatment mentioned above (with indexation benefit) can also be lucrative for investors.

For instance, investing in a Multi Asset Allocation Fund can prove to be more tax-friendly compared to a situation wherein an investor was to invest in those assets individually. Consider this: investing in an international equity fund, debt fund or gold ETF leads to a 30% tax if the investor is in that personal income tax bracket, compared to a 20% tax rate with indexation benefit for the fund.

Since the Multi Asset Fund has asset classes such as debt, which tend to exhibit lower volatility, it can be much less volatile than equity funds.

As you can see in the chart below, a portfolio comprising multi-asset allocation has returned 12.2% compared to 12.8% for domestic equities but at nearly half the volatility (12% standard deviation vs 22% for equities).

Yes, you can do both an SIP and lump sum investment in a Multi Asset Allocation Fund.

While individual investment decisions are best made by a registered financial advisor, a Multi Asset Allocation Fund may make for a good fit for various kinds of investors.

• For a first-time investor, it may provide equity - like returns but at a lower risk.

• For seasoned investors, it provides exposure to multiple assets in a favourable tax structure vis-à-vis if invested individually.

• Retirees may benefit by setting up regular cash flow through an SWP (systematic withdrawal plan) while benefiting from potential capital appreciation and lower volatility.

While investment decisions are always personal and carry an element of risk, as shown above, a Multi Asset Allocation Fund may offer multiple benefits, such as exposure to many asset classes that are often negatively correlated, potential equity-like returns at lower volatility, as well as a superior tax structure.

Talk to your advisor to decide if this is the right fund for you.

As mentioned above, a Multi Asset Allocation Fund may make for an excellent alternative to equity funds or debt funds, by offering the best of both worlds along with additional benefits such as exposure to other asset classes and a superior tax structure.

When it comes to disadvantages, a Multi Asset Allocation Fund may underperform a pureplay equity fund, especially during strong bull markets. Besides, each asset class carries its own risk, which could manifest itself in that part of the allocation.