‘Balanced funds’ fall in the hybrid category of mutual funds and invest more than 65% of the corpus into equities, while the rest is allocated among fixed income instruments. Older retired investors are considering investing into such equity focused funds. They seem to be pretty impressed with the monthly dividends being generated by balanced mutual funds, and are thinking of moving significant chunks of their portfolio from banks into these funds. Although investing a proportion of your retirement corpus in balanced funds is a prudent investment decision one should not be misled or get lured into it by monthly dividends/regular income opportunity. A balanced fund or a MIP with growth option & a monthly/quarterly SWP is a better long term option.
Of late I see that balanced funds are being sold as a retirement solution with regular monthly income. This I feel is a dangerous thing and investors are largely unaware of the downside risk associated to the higher equity allocation. It all sounds good as long as the markets are going up, but what happens if the markets start falling? All hell will break loose in this segment as your initial capital will erode & the monthly dividend payment will stop.
While everyone in the mutual fund industry have been consciously working towards greater inclusion in the markets, mis-selling like this is a little bit worrying as it goes against well-proven asset allocation strategies of equity investments being recommended for long term. The trend of older or conservative investors moving their life savings into balanced funds essentially means that they are convinced these funds can give them regular dividends that can beat fixed deposits by a good margin over the medium to long term. This might be true in the current scenario, but this is unlikely to be the same even 1-2 years down the line leave alone a longer period.
Fund houses can pay out regular dividends only out of the distributable surplus available with them. Markets have been moving up over the last 2-3 years since BJP came to power. This has given opportunities to fund management teams to create ‘alpha’ (a return in excess of that indicated by the benchmark index) in their portfolios by picking up gems in the mid/small/micro caps space. This in turn has allowed them to garner good distributable surplus in their funds, and thus pay out good dividends. To top it all, the duration calls in the fixed income space have also been supporting the returns on these funds as the debt portfolio has also earned double digit returns due to interest rate decline.
On the other hand over the last 6 months there have been very strong inflows every month into domestic mutual funds. Given the current level of the stock markets most fund managers are not comfortable investing the entire amount of inflows coming into the funds. As we all know this market up move is driven largely by surplus liquidity rather than fundamentals. Thus fund managers find it more prudent to return part of the monthly inflows through monthly dividend payments so that they have a lower amount of investable surplus. Balanced funds having the ability to pay out regular dividends may prove to be unfounded if stock markets change track and move in a southward direction for some time.
Sabyasachi Paul has been associated with equity research and advisory on equity markets in India for over 9 years & currently heads the equity research desk of Eastern Financiers Ltd, Kolkata.He also manages a portfolio on the online platform Kristal. Find link to the strategy named 'The Tortoise'