What is an Equity Savings Fund? Is this hybrid mutual fund suitable for you?

What is an Equity Savings Fund? Is this hybrid mutual fund suitable for you? | Vrid

In the world of investing, selecting a fund is becoming very tough unless you are clear on what you want. If you want high returns and have a high-risk appetite, you can invest in equity funds. If you are risk-averse and are okay with low returns, you can invest in FD or debt funds.

But what if you want a balance between them? You can afford to take a little more risk than FD or debt funds and want to earn better returns. For this, we have hybrid mutual funds.

Hybrid mutual funds are a combination of debt and equity. We have already discussed some of them – Balanced Advantage FundMulti-Asset Fund, and Arbitrage Fund.

In this post, we’ll break down another hybrid mutual fund – Equity Savings Fund. Let’s understand what it is, how it works, its historical performance in India, and the pros and cons. By the end, you’ll have a better understanding of whether this hybrid mutual fund is a suitable choice for your investment portfolio.

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What is an Equity Savings Fund?

Equity Savings Funds, or ESFs, are a type of hybrid mutual fund that aims to provide investors with a blend of growth (equity), stability (debt), and opportunity (arbitrage). It’s a beautiful marriage between equities, bonds, and a dash of arbitrage, and it’s designed to cater to a broad spectrum of investors.

How does an Equity Savings Fund work?

At its core, an ESF divides your investment into three components:

  1. Equity: Typically, an ESF invests 30-40% of your money in equities. These equities can range from large-cap to mid-cap to even small-cap stocks.
  2. Debt: Around 30-40% of your money is invested in fixed-income instruments like bonds, debentures, and government securities. These provide stability to your investment.
  3. Arbitrage: The remaining 20-40% is used for arbitrage opportunities. This is where the fund manager tries to benefit from price differences in the cash and futures markets. It’s a clever strategy that can enhance returns. Learn more about it here.

Now, the magic happens when these three elements work in harmony. When equities surge, your investment grows. When equities stutter, the debt portion stabilizes your returns. And when markets get turbulent, arbitrage opportunities step in to increase your returns. It’s like a financial tightrope act to balance risk and reward.

Also, for fund categorization purposes and tax purposes, Equity Savings Funds are equity funds. Therefore, investors of ESF enjoy an additional benefit of tax treatment.

Historical performance of Equity Savings Fund in India

To understand whether the ESF is a good fit for your portfolio, it’s essential to examine its historical performance. Keep in mind that past performance is not indicative of future results, but it can provide some valuable insights.

As of October 18, 2023, Equity Savings Funds (direct plans) have on average delivered 11.75% p.a. returns in the last 3 years. Their 5 and 10-year annualized returns are 9.55% and 9.25% p.a. (Source – AMFI)

The performance of Equity Savings Funds in India has been quite impressive over the years. Remember, the returns can vary depending on the specific fund you choose and market conditions.

And, as Equity Savings Funds are actively managed funds, their expense ratios are high. The expense ratio charged on direct plans is in the range of 0.3 to 1.5% and 1.1 to 2.5% on regular plans. (Source – AMFI)

Pros of Investing in ESF

  1. Balanced Returns: ESFs offer a unique blend of equity and debt, providing a good balance between growth and stability. This is perfect for investors who want to participate in stock market gains but with a safety net.
  2. Tax Efficiency: ESFs come with an equity fund tax advantage. If you hold them for over a year, the gains are treated as long-term capital gains, and you enjoy tax benefits.
  3. Professional Management: Expert fund managers who make strategic decisions based on market conditions and financial analysis manage your money. This takes the burden of stock picking off your shoulders.
  4. Diversification: By investing in ESFs, you automatically diversify your portfolio across various asset classes, reducing the risk associated with investing solely in equities.

Cons of Investing in ESF

  1. Market Risk: Although ESFs aim to reduce risk, they are not immune to market fluctuations. Market volatility can still affect the equity component. Also, the Arbitrage opportunities depend on market inefficiencies, which can be scarce during certain market conditions.
  2. Returns Variation: The performance of ESFs can vary depending on market conditions and the fund’s strategy. Some funds may not perform as well as others.
  3. Expense Ratio: Like other mutual funds, ESFs come with expense ratios that can eat into your returns. Be sure to check these costs before investing.

Should You Invest in an Equity Savings Fund?

The decision to invest in an Equity Savings Fund depends on your financial goals and risk tolerance. Here are some scenarios where an Equity Savings Fund might make sense:

  1. Medium-Term Goals: Equity Savings Fund is a good choice for your medium-term goals because of the equity component and duration of debt funds. We won’t recommend investing in ESF if you require your funds before 12 months or want to invest for the long term. 
  2. Tax Efficiency: If you’re looking to minimize tax liability, especially for short and mid-term gains, these funds can help you optimize your tax obligations. Tax-wise, ESF can save more tax for you when compared to debt-oriented funds.
  3. Moderate Risk: If you are looking for a balanced investment that combines the potential for growth with a safety net, Equity Savings Fund can be a reliable option.

In conclusion, Equity Savings Funds can be a valuable addition to your investment portfolio, offering a balanced mix of equities, debt, and arbitrage. They are an ideal choice for those who want to enjoy the benefits of the stock market while having a safety net in place.

However, like any investment, it’s crucial to do your due diligence, understand your financial goals, and consider your risk tolerance before investing. ESFs are not a one-size-fits-all solution, but they can be an excellent option for many investors seeking a middle ground between risk and reward.

Share these insights with your buddies. Until next time!

Still Curious?

If you are like us, who likes to analyse a little more or check out content in different formats, well you are in luck. Below you can find some suitable content we found.

Mint – What every investor can expect from their equity saving funds

IIFL – Why Should You Invest in Equity Savings Funds?

ET Money – A Complete Guide to Hybrid Funds | Incl. Multi Asset, Arbitrage & Balanced Advantage Funds

Note: We don’t have any affiliation with them. We are sharing links only for educational purposes. The opinions expressed by them belong solely to them and do not reflect the views of Vrid.

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DISCLAIMER: This newsletter is strictly educational and is not an investment advice or a proposal to buy or sell any assets. Please be careful and do your own research.

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