Steer clear of these types of hybrid funds if you are new to investing

There are 8 hybrid fund categories in all -- multi-asset allocation, dynamic asset allocation, arbitrage funds, balanced advantage funds, equity savings funds, conservative hybrid funds, balanced hybrid funds and monthly income plans.

Broadly, these hybrid funds are categorised as debt-oriented and equity-oriented funds.

First-time investors should prefer investing in equity savings funds, balanced hybrid funds and monthly income plans, considering their risk appetite and the time available to them to achieve their goals.

Equity savings funds are less volatile and give stable returns as they invest in equity, fixed-income and arbitrage opportunities equally. Overall, these funds have conservative allocations and reduce the risk for investors.

Balanced funds are the most popular type of hybrid funds. These funds invest at least 65 percent of their portfolio in stocks, while the rest is either invested in fixed income securities or kept in cash.

"Balanced funds are ideal investments for conservative investors who wish to benefit from the return-earning capacity of equities without taking too many risks. The fixed income exposure of balanced funds helps in mitigating equity-related risks," said Gupta.

Monthly income plans are hybrid funds that invest predominantly in debt instruments and would generally have an exposure of 15-20 percent to stocks. This allows them to generate greater returns than regular debt funds.

These funds invest around 10-25 percent of their assets in stocks, while the remaining 75-90 percent is invested in debt and money market instruments.

"First-time investors looking for a broad-based exposure to equity should avoid investing in conservative hybrid funds. As, long term investor’s looking to build wealth gets less exposure to equity in this type of hybrid fund," Gupta said.

Vidya Bala, Head - MF Research, FundsIndia.com, pointed out that these funds are useful for new investors who are retired, as their exposure to stocks is low, which makes them less volatile.

These funds attempt to create long-term wealth at a relatively lower rate of volatility by investing in both stocks and debt instruments.

"Positions in equity and debt securities are adjusted dynamically to take maximum advantage of market situation. However, too much of portfolio adjustment may prevent them from catching the upside which forms the basis for higher returns," Gupta explained.

These funds are only ideal for investors who are already familiar with market dynamics because they look to invest in both stocks and debt market instruments on the basis of their valuations.

"In this scheme, the dynamic nature of the fund means that it depends on the fund manager to choose the asset allocation. First-time investors tend to have low-risk appetite, but a dynamic asset allocation fund manager may go the whole hog on equity and set the fund for some volatile times ahead," Rego said.

Prateek Mehta, CEO and Co-Founder, upwardly.in, said investors, who do not revisit their portfolio allocation on a regular basis, can subscribe to dynamic asset allocation funds. In these funds, the fund manager carries the burden of asset allocation.

However, for these investors, investing in these funds may also prove to be inefficient because the fund manager will not be aware of their net worth, risk appetite and how they have allocated their assets elsewhere.

These schemes aim at creating wealth in the long run by investing in multiple asset classes. A multi-asset allocation fund's portfolio is composed of stocks, debt market instruments and other asset classes including gold and gold exchange-traded funds.

Gupta opined that these funds could prove to be too risky if the fund manager allocates heavily to risky instruments. Bala pointed out that these funds are "tax inefficient" and have thus far now generated optimal returns for investors.

These funds try to make a regular income by taking advantage of price differences of securities between the cash and derivative markets. The remainder of the fund's assets are invested in debt securities and money market instruments.

"So, these funds are suitable only for investors who understand arbitrage opportunities and derivatives. They are complex products for first time investors," said Bala.

These funds do not generate huge returns for investors. In fact, their returns are comparable to those of good liquid funds.

All debt-oriented hybrid funds are taxed like debt funds. Returns on short-term funds (less than 3 years) are taxed in line with the applicable income tax slabs, while those on long-term ones (over 3 years) are taxed at 20 percent after indexing the cost.

All equity-oriented hybrid funds (arbitrage, balanced advantage, dynamic asset) are treated like equity funds. Returns on short-term funds are taxed at 15 percent and those on long-term ones (over 1 year) are taxed at 10 percent, if the amount of gain exceeds Rs 1 lakh.