Equity Savings Schemes Funds

As mutual funds rise in popularity, more investors are investing in them to achieve their life goals. Also, there is a mutual fund for every type of goal you have - save taxes, build an emergency fund, retire comfortably, and so on. It is a good idea to learn about the different types of funds so that you can choose the one that suits your risk tolerance and financial goals. Always remember that the funds you invest in should match your investment objectives, investment horizon, and risk appetite so that you don’t take any unnecessary risk and end up with a low-performing investment instrument for years.

In this article, we will learn what equity savings scheme funds are, how they work, the benefits, and the factors one should consider before investing in these funds.

Equity savings funds are hybrid mutual fund schemes, which carry less risk when compared to aggressive hybrid funds like Hybrid Equity Funds or Balanced Funds. In simple words, this mutual fund is a combination of equity funds, debt funds, and cash-futures arbitrage. These funds diversify their holdings in order to neutralize the volatility that comes with investing in the stock market.

In equity savings scheme funds, 40 to 70% of the portfolio of the equity savings fund is allocated to completely hedged equity positions. This move is done to generate arbitrage or risk-free profits. On the other hand, 10 to 35% of the portfolio is invested in fixed-income and money market instruments with the aim of generating income. Hence, 70 to 80% of the portfolio has low volatility and generates regular income.

Over a long investment period, the active equity allocation can also generate capital appreciation for investors. In a way, the equity savings scheme fund is like a balanced fund in that they try to get above market returns but also tries to manage risk in two ways i.e. through debt exposure and also via arbitrage hedges.

Here’s a detailed look into how each of the segments (i.e.) arbitrage, debt, and active equity works.

Arbitrage - Arbitrage by definition is defined as risk-free profit by exploiting price differences of the same underlying asset in different market segments, for example, cash and Futures & Options (F&O). In the arbitrage strategy, you will take the long (buy) and short (sell) positions of the same stock in cash and F&O market respectively. If the price of the stock in the F&O market is higher than the price in the cash market, you will be able to lock in risk-free profits. In an arbitrage strategy, capital safety, returns, and liquidity are important considerations.

Debt - As mentioned above, the debt exposure of equity savings scheme funds can range from 10% to 35%. The debt allocations of these funds aim to generate income, lower overall volatility and offer stability to the fund. The debt allocation depends on prevailing bond yields and arbitrage opportunities in the equity market. In bear markets, when the futures premium follows, arbitrage opportunities narrow and these funds may invest up to 35% in debt.

Active Equity - Equity savings scheme funds take active (un-hedged) net equity exposure within specified allocation ranges. When fund managers are bullish on equities, they increase active (un-hedged) equity exposure to the upper end of the range. On the other hand, the fund manager has the flexibility to lower the equity allocations and increase exposures to arbitrage or debt if volatility increases in the stock market.

Equity savings scheme funds are ideal for those investors who are looking for equity exposure but don't have a long investment horizon. They are the perfect investment option in the hybrid category for conservative investors because of their tax efficiency. Even people who have retired, and are open to taking limited exposure to equities, can consider investing in these mutual funds.

Since these funds invest in multiple segments, they are able to increase investors’ returns on investment while balancing rewards and smart risks at the same time. They are also ideal for investors with short to medium-term goals, where the investment horizon is between 2 to 4 years.

There are two investment modes through which an investor can invest in mutual fund schemes. They are

Lumpsum - You choose lump sum if you wish to invest one time in a mutual fund scheme. Usually, people choose this method when they receive a bonus, so they can put the money in a scheme as a one-time investment.

If you wish to know how much and how long you need to invest to achieve your goals, please check the Lumpsum Calculator, created by Koshex.

Systematic Investment Plan (SIP) - You choose SIP when you want to invest a fixed amount in a scheme at regular intervals. You can choose to invest ₹5000 every month or ₹10,000 every quarter. When the due date comes, your amount will be deducted automatically from your bank account and it will be used to purchase units of the mutual fund scheme.

If you wish to know how much you need to invest every month via SIP to achieve your goals, please check the SIP Calculator, created by Koshex.

There are several benefits to investing in equity savings scheme funds. Here are a few:

Equity savings scheme funds allocate more than 50% of their corpus towards debt and arbitrage. Hence, they are characterized by more stable returns in comparison to entirely equity-oriented holdings. Also, fund managers often use a number of derivative strategies. The arbitrage component of these funds helps tackle price inconsistencies within the markets.

The arbitrage aspect of equity saving schemes comes with its own advantage in terms of offering stable returns. In simple words, strategically dealing with arbitrage allows for low-risk returns. Hence, these funds are ideal investment options for those looking for stable returns from their investments.

For taxation purposes, equity savings scheme funds are classified as equity mutual funds. This means the tax burden of your investment in these funds will be considerably reduced. If you hold units in such a fund for more than a year and earn returns under ₹1 lakhs, you do not have to pay any taxes on your returns.

Equity savings scheme funds offer their investors a diversified investment portfolio. So, when you invest in these funds, you are basically investing in a diversified portfolio through a single investment. This means that investors don’t need to analyze and compare the performance of several funds. Instead, you can simply invest in this one fund and let asset managers cover fund selection.

Equity savings scheme funds are great for investors with a moderate risk appetite. Meanwhile, here are some things you should consider before investing in these funds.

Just like every type of mutual fund, equity savings scheme funds do not provide guaranteed returns. Its performance will depend on the equity market movement, arbitrage opportunities available, the interest rate, and the credit environment. On top of that, when you compare the performance of this fund category with other debt fund categories, we can see how the former hasn’t given returns to boast about. So, consider equity savings scheme funds, if you are looking to invest for the short to medium-term and earn stable returns.

The one thing you should understand here is that equity savings scheme funds should not be compared with conservative hybrid funds because the former can have much higher active (net long) equity allocations compared to the latter, where equity allocation is capped at 25%. So, the risks carried out by equity savings funds and conservative hybrid funds are very different.

At the same time, the average active (net long) equity allocation of equity savings scheme funds is usually lower than aggressive hybrid and balanced advantage funds. So, equity savings scheme funds are generally less volatile and more stable than aggressive hybrid and balanced advantage funds. Equity savings scheme funds carry a higher risk than conservative hybrid funds, so before investing in these funds, consider your risk tolerance.

Always consider your investment horizon before deciding to invest in equity savings scheme funds, as they are best suited for medium-term investments. The ideal investment horizon for equity savings scheme funds is 3 to 5 years.

Investors must understand the costs involved in investing in equity savings scheme funds. The expense ratio is the amount charged by fund houses for managing the fund. SEBI has marked the upper limit for this at 2.25% of the average asset under management. If a fund has a lower expense ratio, you will earn higher returns. So, it is important to choose a fund that has the lowest expense ratio.

Equity savings scheme funds are subject to capital gains tax and dividends tax.

Short-Term Capital Gains (STCG) Tax - If you hold your investments in equity savings scheme funds for less than 12 months, you will have to pay an STCG tax of 15% (plus applicable surcharge and cess).

Long-Term Capital Gains (LTCG) Tax - If you hold your investments for more than 12 months, your long-term capital gains of up to ₹1 lakh are exempt from tax. However, gains over ₹1 lakh will be taxed at 10% (plus applicable surcharge and cess).

Dividends paid by the equity savings scheme funds are added to your taxable income and taxed as per your income tax rate.

Equity savings scheme funds are a good investment option if you have a moderate risk appetite and a short to the medium-term investment horizon. They can also be a good investment option for investors who are nearing their retirement age and would still like to have equity exposure in their portfolio.

We hope this article helped you understand all about equity savings scheme funds and how they can help you achieve your goals. It is important to learn how equity savings scheme funds will benefit you and what factors you should consider before investing in them.

If you wish to learn more about other types of mutual funds, including ELSS funds, and other types of investment instruments, such as Fixed Deposits, Digital Gold, and Smart Deposits, head over to our Blogs section. You can also check out our Calculators, where you can learn more about how much wealth you can accrue in certain years.

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