On April 1, when you bid goodbye to fiscal 2001-02, you should have also waved farewell to something else: the fantastic returns delivered by almost every other debt fund. After all, if you had invested in medium to long-term gilt funds last year, you would have raked in 21.5 per cent-plus; even short-term debt funds posted 8.17 per cent returns, comfortably beating the short-term bank rate. Unsurprisingly then, the total assets managed by debt funds grossed all of Rs 32,000 crore last year, even as returns from diversified equity funds crashed by 21 per cent, and tech funds by 37 per cent.

If you expect 2002-03 to follow a similar pattern, it would be a bit like driving a car, with both eyes on the rear-view mirror: your focus would be only on what's behind you, not on what's ahead. And the road ahead, let us tell you, is paved with opportunities in the equities market (and will possibly be littered with carcasses of over-enthusiastic debt fund investors). Avers U.R. Bhat, Chief Investment Officer, Jardine Fleming AMC: "(With the stockmarkets at their near-bottom), equities have a good chance for appreciation."

If debt funds stole the show last year, there were three good reasons for their stellar performance: the three rate cuts announced by the Reserve Bank of India, which brought the bank rate down to 6.5 per cent. And the funds that were able to aggressively leverage this opportunity with their medium-sized asset base were able to top the charts. Interest rates will continue to be soft, but as Nilesh Shah, Fund Manager, Templeton Asset Management India, explains: "Even if the interest rates go down, it would be foolish to expect that they would go down 300 basis points like (they did) last year."

This, of course, doesn't mean that you banish the debt fund from your mutual fund portfolio. Rather, now is the time to reshuffle and strike a fresh balance between equity and debt schemes. Says Alok Vajpeyi, CIO, DSP Merrill Lynch IM: "It is important that investors correctly judge their investment objective and individual risk appetite." Start by thinking what are you trying to accomplish: what is it that you would like your investment in mutual funds to earn over say a three to five year period? How much risk are you willing to take to get it?

Taking a closer look at equities, of course, means that your appetite for risk too should increase. Last year, for instance, if you had made higher allocations to debt funds to achieve say a 16 per cent per annum return on your investments, to take home a similar return in the current fiscal, you would have to transfer some of that allocation to equity funds-and in the bargain take on a little more risk.

Go for Equities

That risk could well be worth it. The gurus on the bourses expect the benchmark Sensex to settle at 3,900-3,950 by December 2002 (up 400-450 points from current levels). Says N.K. Sharma, CEO, IL&Fs AM: "With the economy pulling out of recession and with stock valuations at attractive levels, investors need to consider increasing their allocation to equity funds."

If you're not sitting on an obscene investible surplus, or if you have no time for research or for monitoring your stocks on a regular basis, you are better off opting for a mutual fund rather than trying your hand at stock-picking. But, these days, picking a fund isn't exactly the easiest of tasks either. You have 34 of them and six categories-diversified, tax planning, infotech, FMCG, pharma and speciality-to choose from. What do you do?

If your mind is a bit blurred by the buffet in front of you, the best option would be to take a page from the funds' past performance. Diversified equity funds are typically safer than the others as they reduce the risk associated with a particular sector. However, when choosing a diversified fund, make sure it lives up to that prefix. Warns Dhiren Kumar, CEO, Value Research, which tracks mutual funds: ''Beware of funds concentrated in a few sectors. It is critical to pick up a truly diversified yet actively managed equity fund." Some of these include Pioneer ITI Bluechip, Sundaram Growth and Zurich India Capital Builder. Once invested, keep tabs of the fund's investment strategy to ensure that any realignment is within your comfort level.

"It is foolish to expect interest rates to go down by 300 basis points" Nilesh Shah, Fund Manager, Templeton AM

Whilst diversified funds could provide the core of your equity portfolio, you could also look at specialised funds to provide higher returns at a reduced risk. For instance, in the January-March quarter, the market gained 10 per cent, but the petroleum sector funds raked in much more-JM Basic Fund is up 60 per cent and UTI Petro Fund, 48.59 per cent. Similarly, Magnum Contra, which invests in out-of-favour stocks is up 27 per cent, thanks largely to its portfolio of cyclicals. DSP ML Opportunities, which focuses on just two select sectors at a given time, is up 22.48 per cent. And Alliance Basic, which invests in companies sensitive to economic cycles, has gained 19.33 per cent in last year's last quarter.

Investing In Volatile Markets

If the high-octane volatility on the exchanges is getting to you-especially when images of the boom and bust of 1999-2000 float in front of your eyes-don't let the prospect of a sudden erosion in your portfolio deter you from investing in mutual funds. For, there could be a product tailor-made to address your apprehensions. As Abhay Aima, Country Head, Equities and Private Banking, HDFC Bank, advises: "Index funds could be the best bet if you are not too sure which way and how much the market will move."

The innovative funds launched over the past couple of months could also provide a shield against volatility. Pioneer ITI's PE Ratio Fund, for instance, aims to provide superior risk-adjusted returns through a portfolio of stocks and bonds whose allocation will vary based on the PE ratio of the overall market. At its core, it is a disciplined, dynamically programmed index fund with an in-built automatic buy-and-sell mechanism to be triggered by the PE levels of the NSE Nifty. By design, if the PE of the Nifty is below 12, then the fund will have 70 to 90 per cent in equities and up to 10 per cent in bonds. While the equity portion of the fund will be passively managed and invested in Nifty stocks in proportion to the weight in the index, the fund manager will manage the debt.

"Index funds are the best bet if you aren't sure which way the market will move" Abhay Aima, Country Head (Equties), HDFC Bank

In case you are a BSE tracker, there's UTI's Variable Investment Plan. An asset allocation fund, it will realign its allocation in BSE Sensex stocks and bonds based on the movements of the Sensex. At lower levels-up to 3,200-the fund will have a higher equity allocation to the extent of 80 per cent (with the rest going into debt securities) and if the Sensex breaches 4,200, the equity allocation goes down to 51 per cent. That's one way to ride the peaks and troughs of the stockmarket.

Bonded To bonds

Debt funds may not be able to repeat the stupendous performance of 2001-02, but that doesn't mean you should ignore them totally. You can't rule out interest rates falling further and, barring adverse political developments, the debt outlook seems largely sanguine. But don't be disappointed if you don't strike it as rich as you did last year.

Says Shah of Templeton am: ''This year is going to be the year of volatility for debt, so try and make volatility your friend." His reasoning: global interest rates could go up and there could be pressure on liquidity should the Indian economy recover. Gilts would then become volatile. Those who can't digest volatility can shift from gilt funds to bond funds. These include the DSP ml Bond Fund, which has reduced the average maturity profile to five years by reducing its exposure to government securities, the Prudential ICICI Income Fund or Kotak Mahindra's k-Bond Wholesale Plan.

Round The Tax Axe

If you have been an investor in the dividend plan of a mutual fund, Budget 2002-03 has doubtless dealt you a blow. For, that dividend is no longer tax-free in your hands, thanks to the abolition of the dividend distribution tax on funds. Till now, dividends from open-ended equity funds were not subject to dividend tax; only open-ended schemes with less than 50 per cent in equities and close-ended schemes were subject to a dividend tax of 10.2 per cent. Not anymore. Now debt mutual funds lose the advantage they enjoyed in the form of a higher post-tax yield compared to the other fixed income instruments. The dividends from income funds will be taxed in the hands of the investor at a tax rate applicable to him; however, dividends from equity funds will be taxed in the hands of the investor at a flat rate of 10 per cent.

If you are in the highest tax bracket, and you had enjoyed tax free dividends so far, don't rush to redeem your mutual fund simply because there are not many tax-effective investment avenues. A much better strategy would be to switch from the dividend to the growth plan of the debt fund. Explains Sharma of IL&Fs AMC: "If the investment is locked in for a year, you become eligible for long-term capital gain/loss at the rate of 10 per cent without indexation." This does mean, though, that the investor will not get the benefit of monthly, quarterly or half-yearly dividends.

"Investors should correctly judge their investment objectives and risk appetite" Alok Vajpeyi, CIO, DSP Merrill Lynch IM

Those who need regular cash inflows can avail of the growth option with a systematic withdrawal plan (SWP). This way the cash flow comes by way of redemption of units at regular intervals, rather than by way of dividends. The SWP plan enables you to lessen the tax burden by planning withdrawals in a systematic and tax efficient manner. Investors have the option of choosing between monthly, quarterly and half-yearly withdrawals. There are no exit loads applicable on redemption. This option, says Kumar of Value Research, "is particularly good for senior citizens looking for a steady income stream and earning not more than Rs 8,000 per annum from dividends."

In short, stay invested in mutual funds. Don't try to predict what the stock or bond markets will do. Instead, rebuild your fund portfolio-throw in a few diversified equity funds for growth, add a dash of a speciality fund, an index fund, a PE fund, or a debt fund-and continuously monitor its performance. That's one sure-fire way to ensure that you don't lose your shirt.