Why are aggressive balanced funds seeing outflows?

In the year 2020, aggressive hybrid funds have seen net outflows in each and every month with the cumulative money flowing out of the Aggressive Hybrid Funds at over Rs24,000cr.

Jan 22, 2021 08:01 IST India Infoline News Service

When AMFI announces the mutual fund flow data each month, there is a lot of interest and excitement that gets built over the flows into equity funds and debt funds. However, the Hybrid Aggressive funds do not get that much attention. These are the hybrid funds that combine debt but are predominantly into equities; as the name suggests.

In the year 2020, aggressive hybrid funds have seen net outflows in each and every month with the cumulative money flowing out of the Aggressive Hybrid Funds at over Rs24,000cr. That is a serious matter because even the equity funds overall saw net redemptions only for the last 6 months. The chart below captures the Aggressive Hybrid story.

Data Source: AMFI

If you to talk to mutual fund distributors, this trend is attributed to profit booking. That argument is understandable in the last 2-3 months; but not for the entire year. Surely, there is more to the story of heavy redemptions from aggressive hybrid funds that meets the eye.

Here is a look at some data on aggressive hybrid funds
Category Average Return Top Performer Bottom Performer
Aggressive Hybrid – 1Y 16.87% 43.34% -1.67%
Aggressive Hybrid – 5Y 12.06% 16.65% 3.65%

If you look at Aggressive Hybrid as a category, the one year returns may be a tad misleading but if you look at the 5-year returns, then the category has not done too badly. An average return of 12.06% is a very good return annually over a five year period, especially considering that it is lower on the risk scale compared to pure equity funds. Obviously we are missing something out; so let us look at risk aspects of aggressive hybrid funds.

Risk Measure 1-Year 3-Year 5-Year
Beta 1.1538 1.1509 1.1546
Alpha -5.673 -4.845 -3.101
Correlation 98.10 96.52 96.56
Data Source: Morningstar

This is the real problem. Firstly, if you consider any time period, aggressive hybrid funds have a beta of more than 1.15. That means, despite the debt component, it is as risky as equity funds. Secondly, alpha is what captures the excess returns. Alpha for aggressive hybrid funds have been negative for all the time periods.

This indicates that investors have not been adequately compensated for the risk. Lastly, a correlation ranging from 96 to 98 means that in terms of performance, it almost mirrors pure equity as a category. It really does not give the risk reduction that investor are actually looking for.

Mis-selling has been a major challenge for aggressive hybrid funds

One of the reason many investors pulled out money, according to AMFI, is that they felt they had been marketed these aggressive hybrid funds as safe products. At least, that is what they thought they were led to believe. When they eventually realized that these aggressive hybrid funds were as volatile and as risky as equities, there was a sense of disillusionment. That possibly is one explanation for these bunched outflows. In 2020.

To an extent, the crash of 2020 was also a major reason. Investors bore the brunt of the volatility as markets crashed nearly 30% in less than 2 months. While long term debt did better due to lower yields, the exposure to debt was too small in these aggressive hybrid funds to really make a positive difference to investors. Also, many balanced hybrid funds had to even sell some of the stable debt holdings to meet the redemption pressure. That only worsened matters and added to the disillusionment.

Dividend taxation was a recent challenge

An important reason why the aggressive hybrid funds saw outflows was the shift in dividend taxation. Union Budget 2020 made dividends taxable in the hands of investors at their incremental peak rates. This was negative for investors in the 30% bracket. Many of the larger HNI investors opted out of hybrid funds for this very reason. From a small dividend distribution tax (DDT) of just 11.65%, investors in aggressive hybrid funds now had to pay 30% plus applicable surcharge. Many HNIs opted out for this very reason.

How should investors approach aggressive hybrid funds?

There are two basic rules that investors must keep in mind about aggressive hybrid funds.

a) As a part of asset allocation, it would still be better to split between equity funds and debt funds. Ideally equity funds are for long term goals and debt funds for short to medium term goals. For medium to long term goals you can look at investing in a small way in aggressive hybrid funds. From financial planning perspective, it is best to do the allocation yourself rather than rely on fund managers.

b) Secondly, even if you opt for an aggressive hybrid plan, don’t look at it as a low risk or regular income option. Hence dividend plans are ruled out and you would do better to stick to growth plans.

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