HNIs turn to hybrid debt funds, SIFs for higher post-tax returns

Mumbai: Rich investors eyeing a debt-oriented portfolio with higher returns and better tax efficiency are considering niche plans offered by mutual funds and the newly created specialised investment funds. These structures bundle together high-yielding debt, equity arbitrage, REITs (Real Estate Investment Trusts) and InvITs (Infrastructure Investment Trusts) among other securities that boost returns while minimising the tax outgo.

For instance, the UNIFI Dynamic Asset Allocation Fund (UDAAF) allocates roughly one-third of its portfolio each to arbitrage, high-rated debt papers and credit. While the scheme does not hold unhedged equity positions, it may participate in special situations such as buybacks, open offers and IPOs to generate additional returns. The fund has delivered a return of 8.05% over the past year, compared with the Value Research category average of 2.24% and 1.28% for the CRISIL Hybrid 50+50 – Moderate Index.

Meanwhile, the Redhex Hybrid Long Short Fund, (RHLSF) a Specialised Investment Fund (SIF) launched in June, allocates 25-35% to arbitrage strategies, up to 10% to REITs, up to 15% to InvITs, 15-25% to high-yielding non-convertible debentures (NCDs), 10-15% to liquid fixed-income instruments and 5-15% to retail loan securitisation.

Buoyed by the response to these products, some smaller fund houses are evaluating similar offerings in the SIF space.

“Using mutual funds and specialized investment funds as vehicles, there are products that add credit to portfolios to boost returns. Due to high returns and tax efficiency these funds are finding favour with HNIs,” says Arihant Bardia, CIO and Founder, Valtrust

High networth individuals (HNIS) are increasingly drawn to these schemes for their combination of relatively stable returns and tax efficiency. The presence of high-yielding credit partly serves as an alternative to equities, which are going through a rough phase currently.
As hybrid products, they are eligible for long-term capital gains (LTCG) taxation at 12.5% depending on their holding period. For instance, investors in the UNIFI Dynamic Asset Allocation Fund must hold their units for at least two years to qualify for the concessional tax rate, while those investing in the Redhex Hybrid Long Short Fund, a lSIF strategy, need to hold for just one year.Investors exiting UNIFI Dynamic Asset Allocation before completing two years will be taxed according to their applicable income tax slab. In the case of RHLSF, gains realised within one year will attract a short-term capital gains (STCG) tax of 20%.

By comparison, a fixed deposit yielding 6.5% delivers a post-tax return of about 4.5% for investors in the highest tax bracket. An arbitrage-heavy hybrid SIF or mutual fund generating an 8% return, however, can deliver a post-tax return of around 7%, translating into a 200-250 basis point advantage over fixed deposits or debt mutual funds.

Managing risk remains the key to success in such a strategy, said fund officials. “We calibrate high yield allocation dynamically with the economic cycle and tap special situations offering favourable risk-reward,” says Premal Damania, National Head Sales, Unifi Mutual Fund.

However, these products are not meant for every investor. While conventional mutual funds typically credit redemption proceeds within two working days, regulations allow SIFs to take longer, reducing their liquidity.

“In a mutual fund, you can get money back in two working days, but in this SIF, redemption happens only once a week, and subsequently redemption takes 10 days, so investors have to budget 15 days for their money,” says Anup Bhaiya, MD and CEO, Money Honey Financial Services.