Balancing Investment Risks In Turbulent Markets

Suman Kumar Thakur
Director
Fairdeal Securities

The ongoing spread of the Covid-19 pandemic has rattled equity markets world over. The aftermath has resulted in sharp corrections in the markets. For instance, the benchmark BSE Sensex index in India dropped from a peak of close to 42,000 to below 26,000 between January and mid-March. While there has been some upward movement in the past few days due to global and national level actions to deal with the pandemic’s impact on economy and society in general, the market continues to remain extremely volatile. 

The market correction has resulted in a sharp fall in most people’s portfolios as gains accumulated over several years have taken a severe beating. You will also come across advice by some financial experts to take advantage of the sharp fall in the markets and start your investments or increase your investments now to gain from the low asset prices. While the advice is true in principle, it might be difficult for a retail investor to determine if the market fall has ended and if he should start with investments. To deal with such situations, mutual funds have a specific category of schemes called the balanced advantage funds. 

The Securities and Exchange Board of India, which regulates mutual funds and overall capital markets in India, has categorised balanced advantage or dynamic asset allocation funds as open-ended dynamic asset allocation funds. These funds are a part of the hybrid schemes basket. This essentially means that these funds are allowed to change allocation from equity to debt or vice-versa as and when required. Unlike other funds like equity or debt funds, the market regulator has not specified any asset-wise investment limits for these funds. However, asset management companies have their own defined limits for their own balanced advantage funds. 

The underlying principle for these funds is dynamic asset allocation. Asset allocation is nothing but a strategy used to keep the risks in a portfolio under check. This means that the entire corpus or amount being invested or already invested is not put in a single asset class. Parts of the corpus are put in different asset classes to avoid a major setback if any one asset class witnesses a tough phase. For financial investments, asset allocation is maintained by balancing the investments between debt and equity instruments. 

Following the same principle, balanced advantage funds aim to balance the risks by actively managing the investments going to equity and debt. Given the current situation of the markets, it is all the more important for retail investors, existing as well as new ones, to take prudent steps. While asset allocation is among the basics, the sentimental decisions taken during difficult phases might make it difficult to stick to the basics. While it is always advisable to get an expert view on your finances, it becomes critical in difficult times to entrust the responsibility to experienced professionals. 

How to deal with your nerves when the market steeply moves downwards or upwards? A reactionary behaviour would be to sell or buy, respectively. However, a tried and tested model could give measured suggestions on what to do. The benefit of such models is that these cut out the noise that sentiments could create in such situations. The balanced advantage fund by ICICI Prudential Mutual Fund has one such model. This model has been in use for over the past decade and has successfully helped to navigate volatile times with ease. This in-house model suggests change in asset allocation on the basis of valuations of the assets. It typically alters equity allocation between 30 per cent and 80 per cent, depending on market valuations

Given its existence of over 10 years now, the model and the ICICI Prudential Balanced Advantage Fund has witnessed multiple sharp movements in the market, both up and down. This fund is the oldest and is considered a pioneer in its category. Also, this is the only fund in its category which has seen a complete market-cycle. As the valuation of equity instruments moves to expensive territory, it calls for a reduction of allocation, and vice-versa. Moreover, the model has delivered impressive results. While the future can never be predicted, the fund has posted 9.23 per cent CAGR against 6.23 per cent posted by Nifty 50 TRI over the past 10-year period (data as on March 31, 2020). 

During this period the average net equity level has been close to 56 per cent. In effect the fund has managed to generate better risk-adjusted return for investors. Not only good returns, but also the efficient tax treatment compared to other traditional investment avenues makes this scheme an ideal investment destination for retail investors. If you are an investor struggling with psychological factors in investments like greed and fear, the scheme should be part of your portfolio to bring some much-needed balance.