BAFs seek to offer a smoother experience across market cycles, not the full upside of a bull market.
Balanced Advantage Funds (BAFs), also called dynamic asset allocation funds (DAAs), have raised their equity exposure to multi-year highs, according to a report in Business Standard.
This could boost performance.
Investors should look beyond past returns and assess the allocation framework and portfolio risks before investing in them.
Key Points
- BAFs have increased equity exposure to multi-year highs.
- Review the fund's asset allocation model before investing.
- Check historical equity ranges and portfolio quality.
- Compare risk-adjusted returns, Sharpe ratio and downside capture.
- Choose a BAF that matches your investment horizon and risk appetite.
Understand Allocation Model
BAFs use different asset-allocation frameworks.
"Valuation-based models typically increase equity exposure when markets appear attractively valued and reduce it when valuations become expensive," says Abhishek Tiwari, CEO, PGIM India Asset Management.
"A counter-cyclical approach is intended to reduce the fund's overall volatility," says Ankit Agarwal, fund manager, Motilal Oswal Mutual Fund.
Some funds use trend or momentum indicators.
Others combine valuation, trend, earnings and macroeconomic variables.
"Assess how effectively the model increased equity exposure when markets were attractive, and reduced risk when valuations were elevated or market conditions became uncertain," says Pooja Paralikar, product head, Abakkus Mutual Fund.
Check Equity Range
A fund's historical equity range indicates how it manages risk.
"It also shows how actively a fund manages risk," says Tiwari.
However, wider allocation flexibility places a greater burden on the fund's decision-making process.
"Allocation mistakes can affect returns," says Tiwari.
Narrower ranges offer predictable equity participation but less protection during market stress.
Match past allocation behaviour to your risk tolerance.
Study Portfolio
Funds with similar equity exposure can behave differently because of portfolio construction.
"The market-cap mix on the equity side and the credit quality and duration of the debt portfolio can materially influence a fund's risk and return," says Paralikar.
A higher allocation to midcap and smallcap stocks can increase return potential in favourable markets.
"But it can also increase volatility and downside risk," says Paralikar.
Also examine sector concentration, debt quality, and duration.
"Credit risk in the fixed-income portion can undermine the objective of downside protection," says Abhishek Kumar, Securities and Exchange Board of India-registered investment adviser and founder, SahajMoney.com.
Check Consistency Of Returns
BAFs seek to offer a smoother experience across market cycles, not the full upside of a bull market.
"Judge a BAF by how its asset allocation has worked across different market cycles," says Subhendu Harichandan, executive director, Anand Rathi Wealth.
He adds that investors should assess whether the fund has delivered consistent performance across different market conditions.
"Investors should compare rolling risk-adjusted returns with the category benchmark across full market cycles to judge whether asset allocation has added genuine value rather than merely tracking momentum," says Kumar.
Compare Risk Measures
Use measures like downside capture to assess risk profile.
Investors may also compare standard deviation with the category benchmark across full market cycles.
Also assess risk-adjusted returns.
"Use the Sharpe ratio as it measures risk-adjusted performance after accounting for volatility," says Agarwal.
Match Fund To Risk Profile
BAF risk profiles differ considerably.
"A fund's risk profile depends on its allocation model, average net equity exposure and underlying portfolio," says Paralikar.
Aggressive funds participate more in rising markets but can be more volatile in corrections.
Conservative funds cut equity exposure more when valuations or market risks rise.
Investors with preferably five years or more and tolerance for short-term fluctuations may consider aggressive funds with higher net equity exposure.
Conservative funds suit first-time equity investors, retirees and those seeking a smoother experience.
Disclaimer: This article is meant for information purposes only. This article and information do not constitute a distribution, an endorsement, an investment advice, an offer to buy or sell or the solicitation of an offer to buy or sell any securities/schemes or any other financial products/investment products mentioned in this article to influence the opinion or behaviour of the investors/recipients.
Any use of the information/any investment and investment related decisions of the investors/recipients are at their sole discretion and risk. Any advice herein is made on a general basis and does not take into account the specific investment objectives of the specific person or group of persons. Opinions expressed herein are subject to change without notice.
Feature Presentation: Ashish Narsale/Rediff
