Can we invest in multi-asset mutual funds?

A multi-asset mutual fund is a new fund category introduced by SEBI. It has the mandate to invest at least 10% each in equity, debt and gold or permitted commodities at all times. We discuss the nature of available multi-asset funds, when investors should consider them and what to expect. We also consider if these funds can be considered as an alternative to large cap or other diversified funds instead of index funds.

The first problem with these funds is the limit on only 10% of the assets on each asset class. This means within the same category one can find multi-asset funds with strategic asset allocation and tactical asset allocation.

That is funds that define the proportion of equity, debt and commodities and then rebalance the portfolio each month according to that strategy or tactically vary the asset allocation with a combination of defined rules or qualitatively as per “prevailing or impending market or economic conditions”.

So within the same category of nine existing funds plus three new kids on the block – Motilal Oswal Multi-Asset Fund, Tata and Nippon India Multi-Asset Funds -,we can have debt-oriented funds (Nippon, Motilal Oswal) or equity-oriented funds (ICICI, HDFC, Axis) or funds with variable tax status (Quant, SBI).

This makes three aspects clear. One, star rating* if of no use – for all fund categories but it is easy to understand why here. That would be a comparison of apples with tomatoes grouped together because of their colour. * This category is only about two years and two months old. Therefore most star rating algorithms have not yet rated them.

Two, unless an investor is clear about why they are investing and what role a multi-asset fund should accomplish, they should stay away from this category. Three, with only two years of performance to consider, past performance is of no significance.

Asset Allocation History of Multi-Asset Funds

The monthly equity allocation history of multi-asset mutual funds is plotted below. Quant Multi-asset fund (black) has changed equity allocation by huge amounts. Technically it is a dynamic asset allocation that invests in three asset classes.

Essel Multi-asset (blue dot reaching up to 90%) has also reduced equity allocation below 65% once from May 2018. SBI Multi-asset (red) has remained a “non-equity fund” but its equity allocation can increase up to 80% according to its KIM (key information memorandum). Equity levels for the other funds – Axis, HDFC and ICICI have not varied as much.

When do multi-asset funds make sense? The first consideration is the investment duration. AMCs like HDFC recommend them for “three years and above”. Their fund can invest 65-80% in equity! So avoid them for short-term goals say less than five years (this is an arbitrary definition).

For 5-10 years you can only use them in a small amount (say 20-30%) and it must be the only equity-oriented fund in the portfolio. For long goals, it should at least be the core equity holding. Otherwise, the benefit of the three asset classes and periodic rebalancing among them would be lost.

Naturally, a multi-asset fund can be the only fund of a long-term portfolio but the equity allocation mandate of the portfolio should be narrow. The 65-80% limit for HDFC multi-asset fund, Axis Triple Advantage Fund and ICICI Multi-asset fund are suitable for this purpose.

However one could argue that an aggressive hybrid fund would also behave similarly and is simpler to understand with little chance of change in tax status.

What to expect: The standard deviation (a measure of daily volatility) for different ICICI funds is tabulated below. Notice that the Multi-asset fund is only a bit less volatile than a diversified large cap fund. Therefore a multi-asset fund that predominantly invests in equity should be considered as on with respect to risk ignoring the allocation to debt and gold (or other commodities).

SBI Multi-asset with its lower equity allocation (by choice, not mandate) registered standard deviations of 4.3% and 3.2% over the last 1 and 2 years respectively. During a crash and bear market, this may seem inviting but adequate maturity is necessary to hold such funds during a bull run.

The same is also true If you wish to opt for multi-asset funds with lower equity ceiling – 50% in the case of Motilal Oswal and Nippon funds. In this case, lower return expectation would be in order along with appropriate investment allocation.

My investments in ICICI Multi-asset fund: About 1/3rd of my son’s future portfolio is invested in ICICI Multi-Asset Fund from Jan 2011 when it was ICICI Dynamic. Due to a combination of my inertia and confidence that a fund with 10,000 plus Crores AUM will change tax status from equity to debt, I have stayed put.  I have not noticed any perceivable benefit in terms of risk or reward after the fund changed mandate.

To summarise, the benefit of the multi-asset will be clear only if equity exposure is not too high. This would reduce volatility, potential returns and change the taxation status to debt.  If you wish to invest in an “equity-oriented” multi-asset fund an aggressive hybrid fund should at least be as good a choice. We need more time (data) to define a pattern of risk vs reward for this category.