The stock markets keep changing every day. They can be flat or can go up or down depending on a number of reasons. These include domestic news, global events, business updates, corporate earnings etc. Most of the time, investors rebalance their portfolio when there are market changes that impact their investment portfolio. For instance, if stock prices have gone up, you can book profits and put them in fixed-income investments.Â If the stock markets tank, you can choose to invest more in stock as prices go down. This helps you maintain the right asset allocation. This is what dynamic asset allocation funds aim at.
What are dynamic asset allocation funds?
Dynamic asset allocation mutual funds invest in a mix of asset classes. They invest in equity, debt, equity derivatives, real estate, etc. So, they are essentially hybrid funds. The fund manager of a dynamic asset allocation fund determines the asset allocation for the fund based on the market movements. So, the asset allocation for these funds will be dynamic, that is, will keep changing.Â
The portfolio of the fund is actively managed and the fund manager rebalances the investments based on the stock market conditions. Usually, when the valuations are low, the fund increases its equity exposure. When the markets are treading higher, the equity investments are reduced. The derivatives are used to manage risks and earn higher profits.
What are the advantages of dynamic asset allocation funds?
The foremost benefit of dynamic asset allocation funds is that they eliminate human biases where the tendency of an average investor is to sell when the stock markets crash and buy more when markets are rising. If you invest in dynamic asset allocation funds, you gain from the expertise of the fund manager who will take advantage of equity derivatives and market changes to lower risks and increase earnings. Your capital gets preserved during bear runs and it is increased during bull markets.
Dynamic asset allocation funds also allow you to take advantage of seasonal and other market trends. For instance, when one asset class is falling, you might not have enough money to invest in that asset class as an individual investor. However, the dynamic asset allocation fund can easily cache in on the lower prices to help investors earn more.
Another advantage is the diversified portfolio. Since dynamic asset allocation funds invest across markets, they provide a diversified portfolio most of the time. Since the funds invest in equity derivatives, the volatility of the funds is also reduced.
What are the costs of investing in dynamic asset allocation funds?
The transaction costs involved with these funds are high when compared to other mutual funds. Why? This is because dynamic asset allocation funds constantly rebalance the portfolio and incur trading costs. So, the costs tend to be on the higher side. The expense ratio of the fund is calculated as a percentage of the Net Asset Value (NAV). Therefore, this will reduce gains from the fund. So, investors will need to look at the expense ratio of the fund and choose ones where the expense ratio is lower.
How are dynamic asset allocation funds taxed?
These funds are treated as equity mutual funds for income tax purposes. This is only if the mutual fund has invested at least 65% in equities. As per the tax laws, long term capital gains (LTCG) on equity funds are taxed at 10% if the gains are more than Rs. 1 lakh. You will need to pay 15% of the gains as tax on short term capital gains (STCG).
However, if the mutual fund has invested more in debt securities, the STCG tax will be as per the investorâ€™s income tax bracket. LTCG will be at 20% with indexation benefit if you have held the investments for more than three years.
Who should invest in dynamic asset allocation funds?
These funds are good for first time and low-risk profile investors. Since they invest in more than one asset class, risk-averse investors can consider investing in these funds.
If you are looking at a fund that invests across asset classes at all times, you can consider multi-asset funds. These funds invest in at least three asset classes.Â
Which are some of the most popular dynamic asset allocation funds?
These are some of the dynamic asset allocation funds.
SBI Dynamic Asset Allocation Fund
DSP Dynamic Asset Allocation Fund
HDFC Dynamic Asset Allocation Fund
Kotak Dynamic Asset Allocation Fund
Axis Dynamic Asset Allocation Fund
Read this article to learn more about multi-asset funds.
If you need help with investing in dynamic asset allocation funds, open an account at Wealthzi.com.