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BW Businessworld

Sensex Near Its Bottom

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Though short-term noise in the market doesn't disturb Sudhakar Shanbhag, chief investment officer at Kotak Mahindra Old Mutual Life Insurance, he is fully aware that it is testing times for the market where it's difficult to see anything beyond 3 months. Talking to Businessworld, he says in the next 3-6 months, Indian market will remain volatile with Sensex moving in a range following the tug of war between global risk on and risk off and domestic policy. In such a scenario, global trend will dictate the trend in the market (Sensex) which is close to its bottom purely in terms of valuation. More than timing, he feels the focus should be on the time and therefore is confident it's a good time to increase equity allocation. He feels that more than liquidity rally, the Indian market needs a structural rally which will come only when interest rates fall and therefore he is disappointed with the recent RBI policy that kept key rates unchanged.  

Excerpts from the conversation

Was the RBI credit policy a disappointment? And why?
As a market participant it was a disappointment since focusing on growth is important at this stage. Post the Q4 FY12 GDP and April IIP data release of 5.30 per cent and 0.10 per cent, respectively, as also the fact that core inflation numbers were less than 5 per cent for the past few months; the market had built in expectations of a repo rate and/or a CRR cut, hoping that RBI would change its focus on growth from inflation. In fact, over the last couple of weeks, the debate was on the quantum and combinations of cut rather than the probability and the index gains and rally in GOI bonds was reflecting the same. The RBI while continuing to focus on inflation has chosen to preserve some of the monetary action possible for adverse developments globally and in line with the premise for frontloading rate cut in April is expecting to see movement on the fiscal side as well as resolutions on the supply bottlenecks.  

Why do you think the current scenario is great for investing? Shouldn't one wait and watch before venturing into the market?
Long-term investors should focus on the time rather than timing the market. Having said that, let's look at the market from a valuation perspective and we find that based on moderated earnings growth expectations for FY13 (expected growth is for FY13 is around 10 per cent on the back of last few months of downgrade cycle, the market is about 13 times FY13 earnings. This valuation is lower than the long term average (it's around 15 times) and is close to all time lows of about 10 times. The choice can be to increase equity allocation at this stage or hope and wait for a correction to 10 times to activate an asset allocation call. The belief is that the current global and domestic factors which are largely pessimistic would turn around and get better over time. And as investors in a risky asset class one should be ready to absorb any event based value reduction and actually take advantage to increase allocation.    

What is your view on the overall financial market? What do you think of the crisis in Europe (especially Greece and Spain) as well as US and why?
From a global perspective, growth is a challenge and most countries are expanding their balance sheet and infusing liquidity with a hope that growth would revive on the back of this support, before they can start moderating liquidity measures. So currently the financial markets are about LTROs, QE3s and soft landings being the flavour. The risk of a contagion is far higher from the Euro Zone since the sovereign debt defaults and the impact it can have on banks which hold these debts is unimaginable. On a relative basis, US banks post the crisis period capitalization are in a better shape and the probability of growth is also better.

What is your take on the Indian equity market for the next three to six months? What are your concerns for the Indian equity market?
Having discussed the positive from the valuation perspective with moderate earning expectation in a pessimistic backdrop, the challenges from domestic perspective are largely linked to the revival of investment demand supported through policy action on fiscal and supply side which will also lead to lower interest rate environment to support growth. From a global perspective we will have to go through a phase of risk on and risk off since the challenges faced are being currently resolved through postponement measures. Hence from a three to six month perspective, we will see a tug of war between global risk on, risk off and domestic policy action, leading to volatile or range bound market.

In current market where will you advice investors to invest? (Any short-term strategy). Don't you think it's better to be sector and market-cap agnostic in this market or stick to the large-cap stocks. What's your view? 
Assuming we are discussing strategies only in the equity allocation part, it has to be a combination of stock selection, sectoral views and market cap mix. On a relative basis since the price to book ratio between large and mid cap is in the neutral expectation zone, one can be marginally overweight on mid caps. From a sectoral perspective, due to the expected volatility one can avoid taking aggressive calls on sectoral deviations. Having said that, a combination of stock selection within the sector call would decide the fate of the strategy. Above all these, the risk taking ability of the portfolio being managed will also influence the strategy.

At Kotak Mahindra Old Mutual Life Insurance what has been your current strategy in investing in equities? How much of an inflow are you receiving in a day? Of this, how much are you investing in equities? If you are investing in the equity market which are the sectors that you are purchasing stocks and which ones you are avoiding?
At Kotak Life Insurance, in our equity schemes we do not believe in taking cash calls since the mandate is for managing equity. With a moderate risk and process oriented approach we actively take decisions on stock selection, sectoral calls and market cap mix. From a ULIP perspective the selection of asset class is primarily made by the policyholder while selecting the fund option. First quarter of a financial year is relatively muted in terms of business for the insurance industry with the pace picking up and peaking in the last quarter. About 50 per cent of the ULIP portfolio is in equity based on policyholders' selection of funds.

We are overweight on the BFSI and Outsourcing theme. Within BFSI we are overweight private sector banks. Within Outsourcing theme we are overweight pharma and underweight IT. In Global Commodities theme we are underweight metals, mining/minerals and Oil and Gas with the only overweight being in fertilizers. Infrastructure as a theme we are underweight but within Infrastructure we are marginally overweight on construction while remaining underweight on capital goods / engineering and utilities. For the domestic consumption theme we are close to neutral weight with FMCG being overweight and Auto being underweight.

On the fixed income side, where are you investing? What is your take on the 10-year G-Sec yields and why?
From a debt market perspective, the overhang of supply and probable slippages in the fiscal deficit numbers are in consideration as also growth moderation which has impacted long-term interest rates. The comfort offered by RBI on the liquidity front in terms of OMOs should help provide a cap on yields. The yield curve is more or less flat with overnight and 1 year government securities (G-Sec) at about 8 per cent and 10-year G-Sec at 8.10 per cent levels. Based on the current dynamics the 10-year G-Sec is expected to be in a range of 8-8.20 per cent .

Traditional or the Non Unit Linked portfolios have a need for long term assets based on liability profiles and hence at current rates we are investing long term for this portfolio. In the ULIP portfolio as well we have increased our allocation to G-Sec relative to corporate bonds and money market instruments and are higher in duration to what we were a couple of months back. For traditional portfolio, the pattern of investment is regulated, while for our ULIP we are currently at 40 per cent invested in G-Sec, 50 per cent in corporate bonds and 10 per cent in money market instruments, and the same was about 30 per cent, 55 per cent and 15 per cent, respectively a couple months back.

What is your take on the 1 year, 2 years, 3 years, 5 years and 10-years yields in corporate bonds? Will you be a buyer in corporate bonds and what would be the tenure? Do you prefer a corporate bond over a G-Sec and why?
Corporate bonds spreads are all about credit risk and maturity premium. If we compare the annualised G-Sec yields for the given tenures and compare the spreads available on corporate bonds, the 1-5 year segment looks attractive with a good carry benefit. The credit deposit ratios of banks suggest that deposit rates may not come down in a hurry. Also, system liquidity would keep short term interest rates elevated. Allocation between G-Sec and corporate bonds is not only a function of spreads but also the probability of movement in interest rates and impact on both the categories. Based on our current view we have increased allocation to G-Sec compared to corporate bonds.
Where are you investing your money in this market? Which asset class would you prefer in the current market environment and why?
Personally I am a strong believer is asset allocation based on risk appetite and I practice what I preach. I have a predefined allocation between equity / risky assets (these includes equity, gold, real estate funds and even PE funds) and fixed income. This allocation is reviewed annually and is rebalanced quarterly or if there is a more that 5% deviation in the allocation percentages.