The Mutual Fund Show: Is It The Right Time To Invest?
As global uncertainty and inflation concerns have triggered a correction in stock markets, is it time to invest?
Prior to the Covid-19 pandemic, the market was completely "polarised" with “too much money chasing too few stocks”, Swarup Mohanty, chief executive officer at Mirae Asset Investment Managers, told BQ Prime’s Niraj Shah.
“When you look at it from a fund management perspective and reflect on... buying a good business at a good price, not only has the market opened up, but there are also many good businesses available at good prices."
The yield-to-maturity funds are also becoming attractive, Mohanty said.
As Indian benchmarks witness high volatility, the time to fill the “gaps” in the portfolio with equity funds was last month, said Feroze Azeez, deputy chief executive officer at Anand Rathi Wealth. This month, it’s debt funds, he said.
“Today, you have an IDFC Crisil Gilt 2027 Index Fund paper, which just invests in government of India securities and nothing else, holds it till 2027 and has an expected return of 6.3% post-tax, which is as good as buying a 10% fixed deposit for the highest tax bracket investors,” Azeez said.
According to Mohanty, while equity is a growth asset in a portfolio, debt is the safety part. Adding debt to the portfolio would not only give a “kicker to the returns” but will also lower the overall risk profile of the portfolio, he said.
“You can add some money on the debt side, which will add to the returns of your overall portfolio, hence bringing down the risk profile of the equity side. You don’t need to take the risks that you know you normally take for the return kicker.”
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Investors should invest in each constituent–small, medium and large cap funds, as they are “complementary to each other rather than competing in rating”, said Azeez.
In the flexi-cap category, he recommended the HDFC Flexi Cap Fund and Canara Robeco Flexi Cap Fund as they have a possibility of future potential return greater than the past return.
Among small-cap funds, Azeez prefers the Aditya Birla Sun Life Small Cap Fund. “Past performance will look ridiculously bad, but from a future potential standpoint, that's a very good one.”
Apart from that, he suggested the Kotak Emerging Equity Fund in the mid-cap fund category, and the Franklin India Bluechip Fund for large caps.
View the full interview here:
Edited excerpts from the interview:
Swarup, what does an investor do at a point of time when most asset classes are looking reasonably attractive relative to the risk reward?
Swarup Mohanty: Let's reflect and look at it from a fund management perspective because what applies to fund managers also applies to investors.
If you look at the markets prior to Covid-19, there was this talk that the market was completely polarised, there was too much money chasing too few stocks.
From a fund manager’s perspective, we come across fund managers and they say that they want to buy a good business at a good price. There were great businesses, but somewhere the prices were not lucrative for them to buy.
I think probably Covid is one of the biggest triggers that happened to the Indian economy. You look at the data points prior to Covid. India was practically slowing down–that's now changed–and you look at the underlying demand starting from say a two-wheeler to health insurance via GST. The data points are stronger by the year and no longer can we say that the base is low; the base is definitely higher.
Thanks to global inflation and oil prices, the yields have moved up and we are looking at 10-year at 7.2% and it was 7.4% a few days back.
When you look at it from a fund management perspective and reflect on that statement of buying a good business at a good price, not only has the market opened up, but there are also many good businesses available at good prices.
So, the fund manager can do two things. One, buy the old businesses/stocks that were there in the portfolio at a good price and add some of the stocks which he/she could have missed out on because of the prices earlier.
You look at the 10-year, and if one year ago, somebody would have said to me 10 years would be at 7% plus, I would have said just give it to me, I will take it. Nobody knows where the yields will go but standalone 7.4%, 7.2% or anything above 7% is definitely a good yield when you look at it.
So, I agree that the investor is spoilt for choice. It's a good time for them to allocate. If their asset allocation does require a fill-up because with the falling of markets, the equity would have fallen, one can balance it out there.
At the same time, add to the long-term part of the portfolio. There are some fantastic yield-to-maturity funds which are available from the industry. So, both sides are looking good.
But as far as asset allocation and risk profile is concerned, maybe Feroze is the right person to talk about it. I do agree that the investor is spoilt for choice at this moment.
Feroze, what's your sense at the current point of time. Does it become a dilemma as to what to tell the investor? When a lot of things, a lot of asset classes are looking good, what do you do?
Feroze Azeez: We look at it in another way and try and see what kind of asset allocation the person follows and what is the return objective. If a person has an 11% return objective, the asset allocation is different than if it has a 12% objective. We try and create three to four portfolios between 11-14% returns. Then you have a risk objective for each of them. So that's step one. This brings in a lot of solidity to what you want to say over a period of time.
Point two is when you are looking at asset classes like equity. Just 15 days back, the mood was gloomy. Today, we are saying that we are spoilt for choice. 15 days is actually a very short span of time to even react to a change in the mood.
You have to look at the asset class and see whether you are getting it cheaper than your opinion of fundamentally what it should be.
Anybody could have different opinions, or at least have an opinion on the fundamental value. If you're getting it cheaper, don't get greedy as an investor.
Point three, today, debt is, of course, a very attractive proposition, especially because the debt side has brought in a lot of passive alternatives, which bring down cost significantly and is very important on the debt side. In equity, I will not pursue a cost strategy. In debt, I will pursue a cost-sensitive strategy.
So, today, you have an IDFC Gilt Index Fund 2027 paper, which just invests in government of India securities and nothing else, holds it till 2027 and has an expected return of 6.3% post tax, which is as good as buying a 10% fixed deposit for the highest tax bracket investors.
I think 6.3% post-tax without any credit risk in INR terms, because the government of India can mint money and give it to you, and still you have lakhs and lakhs of crores sitting in an FD wanting to get the 25% paisa extra because of seniority or economies of scale.
Fill your gaps when you get an asset class cheaper than it fundamentally should be and fill your gaps according to the chronological order. So, last month, we would fill equity gap, this month we will fill debt gap. That's how we look at it.
Do equities still provide a good risk reward and equity funds therefore? If so, should people take the safety of large caps–passive or active–versus maybe choosing Flexi-cap or Multi-cap, which gives you both or should people choose the perceived riskier mid caps?
Swarup Mohanty: There are investors who believe there is enough talent in the industry. To back that up, active fund management is there, and active fund management is alive and kicking.
But post-Covid, there was this discussion on large caps underperforming or underperforming the index.
I believe the volatility in the large caps or the exit of FIIs from large caps has brought back the large cap into play. Mark my words on this, there is enough talent in the industry to beat the benchmark on the large cap side, which was a question mark prior to Covid.
Our house view has been simple. You cannot take away the impact of Covid on balance sheets. The larger the balance sheet, the more resilient it is. So, it is to the advantage of a large company; it is advantageous to large, automated companies post-Covid.
Our view on mid caps was very clear. Last to last March, we practically asked our partners to stop selling our mid-cap fund. There were a lot of issues and a lot of backlash to us on that part.
But look into it from the data perspective, and that's what makes owning mid cap a little interesting. That's where portfolio consistency comes up–when to own mid caps and when not to own mid caps.
When the near-term returns are above median, and that's something which Feroze was referring to on the other side, one has to reflect on owning a certain asset class.
That's what had happened to mid caps last to last March where if you look at one-year trailing on the index, people were talking about returns north of 40%, and if you look at one year later, the retail investor who came looking at that 40% return actually got 20% return. Last month, that investor was negative. Thanks to this rally, the investor is a little positive.
So, returns come in a very lumpy manner and one could probably be a little watchful on that unless you have a very long-term horizon. If you have a long-term horizon, then the right time to buy equity was yesterday. And then it's not about investing long term, it's about holding long term.
Sooner or later, the valuations of mid caps will start looking attractive and that's not very far away is our house view.
But at this moment, even if you look at our portfolio, out of the Rs 100 that we manage, nearly Rs 60-64 is in large caps. And let me tell you, our mid cap track record has not been bad at all. So, that's the only caution we had raised.
As we look at the markets today, we are very confident on our asset stock picking. We say that as long as you are within your risk profile and your asset allocation, do not flinch in allocating to equity as such in India.
India is on a structural growth path and post-Covid, our standing on data is very unique in the world. It's about not only acknowledging that data but internalising that data.
The Indian markets will create wealth and we are very happy to see at least in the last two years, the Indian investors starting to own the Indian markets. Otherwise, it was not so.
Feroze, do you agree that there could be a lot of large-cap funds which could outperform the passive large-cap ETFs or not necessarily so?
Feroze Azeez: In active management, there's enough talent. We did an analysis which clearly exhibits that large cap as a category has the least chance of generating alpha. But it does not mean that you are not generating alpha in large caps. A flexi-cap has a large cap, a multi-cap has large caps.
For example, the Anand Rathi model portfolio of 11 schemes has close to 62% large cap, but has only one large-cap scheme out of the 11.
Fund managers can create alpha in large-cap stocks for sure, at least with the clear definition of the top 100 companies being large caps, which has brought in immense clarity across organisations. Rs 16,000 crore market cap is considered mid cap.
There is immense clarity. I personally believe in the top 100 stocks, choosing the right sector is the talent to create alpha.
As a category, large cap is the least probable to generate alpha. That's why last year we had three large-cap funds in our model portfolio. We reduced it to one. We still have 60% in large caps but without as many large-cap funds.
Are you recommending mid-cap funds or flexi-cap funds over large-cap funds? Do you believe that large caps have a better chance of outperforming, now that we are already 2,000 points or 1,800 points above the lows?
Feroze Azeez: We are reasonably gung-ho on mid caps because there are two ways to look at it. One is to see the median return and the underperformance is behind us for somebody who can hold for three-four years. So we are bullish on mid caps and even on small caps.
Of course, looking at the rearview mirror, it becomes difficult emotionally to invest at this point, which is close to the trough, but it will pay off.
Why we say so is because we analyse that differential valuation between large, small and mid, and we see that the differential valuation which has historically existed has got compressed.
So, mid cap tick mark, small cap also tick mark.
What should investors do on the fixed income fund side?
Feroze Azeez: They should not get perturbed by the rates. Rate hike is about repo and reverse repo rate hikes generally. But the investor makes money or loses money on 10-year G-Sec or 5-year G-Sec as the benchmark.
The short-term rates by the central government could go up. That should not bother you at all because today's spread between the short-term repo rate and the 10-year G-Sec is one of the widest. So, even if RBI increases the repo rate by 7.5%, it will not impact the 10-year G-Sec by more than point one, point two, point three.
Point two, debt investing is about spreads. The second variable which you have to watch out for is lending to corporates and AAA. What is the extra remuneration you get to lend to the AAA corporates? That spread has got compressed. So, the motivation for me to lend to a corporate for 10 years doesn't exist today.
So, moving from corporate to G-Sec. If the government is going to give me 30 paisa less against the corporate which has so many risks, I would rather have 30 paisa less. If corporates are giving me 1.5% more, then it's worth the exercise for me to evaluate the risk of a loss. So, I am not so bullish on the corporate paper because the spreads are not remunerative enough.
The third is the terms spread, which is what is the rate of a 5-year G-sec and a 10-year G-Sec. I think the remuneration for you to move from 5-year paper to 10-year paper is also not adequate, giving away your liquidity for five months. So, the sweet spot is 5-year G-Sec to my mind because you are not adequately being compensated to move to the 10-year paper, you are not adequately compensated to move to a corporate.
Repo rates and reverse repo rates doesn’t bother us because we are one of the few countries which has seen inflation like this. There are countries which have not seen inflation for 40 years and today also our 10-year G-Sec average for the last 10 years is 7.48, and we are lower than the 10-year G-Sec’s 10-year average.
Swarup, you started off this conversation with some thoughts around the debt side. Can you elaborate a bit on that?
Swarup Mohanty: It's something very pertinent which Feroze pointed out that they build portfolios with a target return in mind. So, everybody should have that and there should be a goal attached to everybody's portfolio.
In that, when you look at a return projection, typically, most of the returns come from the equity side; that is the growth asset.
The debt side plays a safety part, but in times like this when you are able to lock into the sovereign at these yields, the debt part gives you two scopes. One is to give your kicker to that return, which otherwise was not available, say a year ago. Once you get that kicker on the debt side, you can actually lower the risk profile of your equity side. There cannot be a bigger double advantage under present circumstances.
So, people who have some long assets can lock into the 2027 paper which Feroze was pointing out.
You can add in some money on the debt side, which will add to the returns of your overall portfolio, hence bringing down the risk profile of the equity side. You don’t need to take the risks that you know you normally take for the return kicker.
When you look at 9% inflation in the U.S. and at a 40-year-high, there is very little anybody knows as to how that country will play out. It cannot take away the impact on the rest of the world. So, these are uncertain times. In these, if you are getting certainty, I would say one should look at it as a good opportunity.
Feroze, where should people park the money and why?
Feroze Azeez: They should have several categories in their portfolio. Flexi-cap is a great category. I can also tell you the schemes. I continue to believe HDFC Flexi Cap Fund is well-poised (despite) Prashant Jain’s exit. You can look at the Canara Robeco Flexi Cap Fund.
These are the two flexi-caps which have a possibility of future potential return greater than the past return.
Our analysts track each stock in the portfolio and come up with a target NAV concept.
On the small cap side is Birla Small Cap Fund. Past performance will look ridiculously bad, but from a future potential standpoint, that's a very good one. Vishal (Gajwani) is the fund manager. He was the PMS fund manager who has recently been promoted to take over this portfolio from last April, so that's the third fund.
Kotak Emerging Equity Fund, which is a mid-cap fund, has a great nose to smell businesses much before the market cap.
On the large-cap side, we continue to recommend Franklin Blue Chip Fund. In 2020, we went the value way and that's why this came into our portfolio. In bull markets, value does well in our opinion. That's the fifth fund.
If you want to actually get the merit of the recommendation, you have to buy each constituent because they are complementary to each other rather than competing in rating.
On the debt side, you mentioned some interesting things. If somebody were to build that portfolio, what buckets within the debt side should people put it in, considering the fact that you may not really see interest? The fear about interest rates rising is slightly lesser than what was there maybe two months ago.
Feroze Azeez: Today, we have two funds in our debt model portfolio. The debt model portfolio, we keep it very fluid. Every month it changes depending on the yield.
So, we have IDFC Crisil Gilt 2027 Index Fund and the ABSL SDL 50 Index.
State development loans are like lending to states. SDLs can give you a little extra. I don't know what is the extent. Swarup indicated 1.5%. I don't know what the portfolio constitutes.
So, these are the two funds you can buy.
Don't ever worry about concentrating your money into a government fund. In my case, all my debt money is in a government fund–IDFC Gilt 2027.
Optically, I have not diversified, but I don't need to diversify when I am giving it to central government, because there's no problem at all. So, all my debt money, which is not too much–10-15% of my portfolio–currently is in one specific fund.
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