You should have both, equity and debt mutual funds

As equity markets reach new heights, investors are talking just in terms of equity funds. But what keeps getting ignored is the role of debt funds

It’s common to see investors wanting to invest more and more into equity funds in the face of the current bull run in the equity markets. But did you know that your portfolio doesn’t just need equity funds? It needs debt funds too. During June-July 2017, Mint had carried a special series detailing the various types of debt funds that are there in the market. You can read more about these debt fund here:

 As equity markets reach new heights (it closed a little over 36,000 points on 26 January), investors are talking just in terms of equity funds. But the ever-rising markets have led some people to raise questions like: should the people invest more in equities, should they book profits now; should they sit on cash for now and then re-enter the market later if and when there is correction? However, in all these detailed questions, what keeps getting ignored is the role of debt funds. 

Before you build yourself a portfolio, you need to set aside some money, for any emergency needs. As equity mutual funds have a better chance to deliver when you stay invested for the long run, it’s not good to start a systematic investment plan (SIP) in an equity fund only to stop it a year or two later and then withdraw the money. But this is what many investors tend do when they are faced with emergency expenses. 

The way out is to build an emergency corpus. What is the ideal size of such a corpus? While the figure varies from person to person, financial advisers say that about 6 months’ worth of living expense should be the corpus. Alternatively, an absolute figure of around Rs5-7 lakh is also a suitable corpus size to have. 

 And here’s where your debt funds come in handy. An emergency corpus should only be built through a mix of liquid and ultra short-term funds. These are very short-term debt funds, that are usually meant to help you park your surplus cash. 

Another way of inculcating debt funds into your portfolio is to practice asset allocation. This also reduces risks in your portfolio.

Here’s how. We know that equity funds are more volatile than debt funds. If you put everything into equity funds and tomorrow—if the equity markets fall sharply—your entire portfolio will fall sharply too. But if you have some portion of your portfolio in debt funds, the fall is cushioned. 

Your age and risk profile should define the split between equity and debt funds. For instance, if you’re nearing your retirement, typically your equity funds’ portion will reduce. Then again, if you had been planning for a goal—like your child’s higher education—and as you get nearer to the goal, it would be beneficial to shift from equity funds to debt funds, slowly and surely. This ensures that if equity markets collapse closer to your goal, your years of perseverance doesn’t go waste and you don’t lose the money you had saved.

Check your portfolio’s equity-debt split. Too much of anything is bad. A right balance is the first step towards an ideal portfolio.