N Sethuram Iyer, Chief Investment Officer, Daiwa Asset Management (India) Pvt. Ltd has over three decades experience with State Bank of India in the areas of investments, credit and forex. He was deputed to SBI Funds Management Pvt. Ltd. as the Chief Investment Officer from January 2003 to June 2007. During his tenure, SBI Mutual Fund has grown to be one of the leading fund houses in India. He has been instrumental in guiding the whole investment team to deliver good investment performance. Post completion of his deputation as the CIO, Sethuram rejoined SBI as General Manager of the Mumbai Circle in May 2007. He has also been the Senior Vice President (Credit & Investments) of SBI in Tokyo for over 4 years.
Daiwa Asset Management (India) Pvt. Ltd. is a part of the Daiwa Securities Group, which has a strong 100 years of history and is one of the leaders in the financial services industry in Asia. Daiwa Securities Group Inc. (“DSGI”) and Daiwa Asset Management Co. Ltd. (“DAM”) own 100% equity share capital of Daiwa Asset Management (India) Pvt. Ltd. DAM, the asset management subsidiary of the Daiwa Securities Group, holds 91% of the equity share capital of Daiwa AMC and the balance 9% is held by DSGI, the parent company of DAM. Daiwa Asset Management (India) Pvt. Ltd. is the investment manager to Daiwa Mutual Fund, which is a mutual fund registered by the Securities and Exchange Board of India.
Replying to Anil Mascarenhas of IIFL, Sethuram Iyer says, “The current low valuations and the expectation that growth would rebound to over 8% in FY 2013, lead us to believe that the equity markets will rerate and deliver handsome returns over the next one year.”
Brief us about the investment philosophy of Daiwa. To what extent has it changed over the years?
At Daiwa, we believe additional value can be provided over the medium to long term, through discovery of hidden worth by using balance of fundamental analysis and quantitative techniques with the application of a consistent process and appropriate risk control measures. This investment philosophy will work in all market conditions.
In your interactions with large investors, what are some of the key concerns they have?
The primary concern of most investors is regarding the volatility in the equity markets. The volatility increases as macro-economic news flows from US and Europe tend to impact the market apart from domestic developments. Fall out of political corruption related news tend to increase concerns on corporate governance issues of certain companies.
What factors would increase appetite for investing in mutual funds?
The market volatility calls for taking timely and well researched investment calls. It is not easy for persons who do not understand the markets fully to invest in equity on their own. In such situation, Mutual Funds offer a safe way to invest as they offer well researched and professional investments.
Mutual Funds are now offering a number of innovative product features. These include multiple product classes (funds which invest in Debt, Equity and Gold), dynamic asset allocation to reduce risk (where the investments into riskier asset classes are varied depending on the risk in the markets), Capital protection orientation, etc.
Mutual Funds also offer features like SIP (Systematic Investment Plans) and STP (Systematic Transfer Plans) which allow regular and systematic investments enabling investors to plan and optimize returns.
How do you compare Indian valuations with other emerging markets?
Indian markets trade at a 15-20% premium to emerging markets as a whole, although this premium was contracted over the past 7-8 months. A number of major emerging markets have commodities as large sectors in their benchmark indices. Besides this, the technology sector in many emerging markets consists of hardware manufacturers, which operate at considerably lower margins on a structural basis, whereas Indian technology companies comprise software service providers, which have a completely different business model. In that sense, Indian equities’ higher valuations are justified.
Indian valuations are higher, but it also accounts for the potential of higher growth in the market/economy.
One of the positive features in equity investment in India is the long term growth prospect of the economy. Over the last two decades, we have progressively shifted into higher growth path and barring certain exceptional years when the whole of the developed world slipped into recession, Indian Gross Domestic Product (GDP) growth has been strong and among the highest in the world. India is expected to deliver growth rates of over 8% over the current decade. As the Indian corporate sector has become highly professional and competitive, earnings growth in a normal year is comfortably over 10%. This is the primary factor why Indian equity markets trade at a premium valuation to both the developed economies as well as emerging markets.
Which are the sectors are you bullish and bearish on?
In the current uncertain scenario, we feel that domestic consumption oriented sectors, both discretionary as well as staples; will continue to do well on a relative basis. The discretionary sectors will gain traction as the interest cycle is expected to peak out soon, and commodity price pressures are likely to abate, thus helping margins. The domestic pharmaceuticals and fertilizer sectors should also do well in the near term. Valuations for the IT sector have reached attractive levels on an absolute basis, but uncertainties abound in terms of corporate discretionary spending in the developed economies. We would look at the IT sector with a positive view from here on, given that the risk-reward appears to be in favour for the larger companies. We would avoid global cyclicals and other export oriented sectors.
Have corporate earnings been in line with your expectations?
Results were mostly in-line with slightly below expectations. Even as revenue growth remains strong, margin compression continues across eight out of ten sectors. EBIDTA margins were under pressure in view of rising input costs. Among sectors, while capital goods disappointed with weak numbers, the order inflow guidance was also weak. Metals & mining stocks too witnessed disappointing results on the back of low volumes and rising raw material costs. Profitability of electric utility companies suffered due to lower offtakes (by SEBs) & falling merchant tariff rates. Real Estate stocks missed earnings estimates due to muted sales volumes. Cement stocks, on the other hand, recorded strong results aided by higher cement prices. Technology stock results were in line with good volume growth and stable pricing. Telecom results have been good with lower fall in RPM and ARPU as well. Pharma results have been in line with the high base effect dragging sales growth.
Comment on the performance of your funds.
We manage the Daiwa Industry Leaders Fund, which was launched in August 2009 and invests in leading companies across sectors, which are selected based on pre-specified criteria of market share, sales growth and profitability. The investment universe for the fund is around 150 companies, which constitute the cream of the best performing companies, largely in the large and mid-cap space. We have maintained a midcap allocation of around 10-13% in the fund for the past one year, and pick stocks on a bottom-up basis, after analyzing macro-economic conditions and their impact on various sectors. As on July 29, 2011, the Daiwa Industry Leaders Fund has outperformed its benchmark Index (BSE 100) since inception.
Every fund manager would give enough reasons to buy a mutual fund. For investors, when is an ideal time they should look at exiting a mutual fund?
Equity investment should be made with a fairly long term horizon. As such, Investors should consider exiting their investment in equity funds only in the following circumstances. (i) if the performance over a reasonable long period does not match that of the peers or benchmark; (ii) If the investment strategy in the Fund has been changed which alters the risk profile of the Fund to the extent that the fund does not suit the investor’s investment requirement and (iii) the investment objective is achieved – i.e the investment has given returns to meet a definite goal of the investor. There is no pre-specified investment time for which an investor should be invested in a particular mutual fund.
Your outlook on the economy, currency, equity market over the next 12 months?
The economy is likely to slowdown compared to earlier estimates, given that higher interest rates and inflation are affecting consumer demand and investment decisions. We expect GDP growth to average between 7.0-8.0% for FY2012. The Rupee could appreciate vis-à-vis the US Dollar to a certain extent, but we feel the appreciation would not be substantial, given India’s high current account deficit. Indian equities have had a lackluster performance during the last seven months due to well known concerns relating to inflation, interest rates, government policy and action inertia, and the global credit crisis, which has assumed serious proportions. However, most companies continue to position themselves for a more robust, longer-term outlook despite caution over the next 1-2 quarters. Weak commodity prices will result in inflation peaking over the next 3-4 months, which would indicate that we are close to the peak in terms of tightening of monetary policy. In terms of valuations, forward P/E at ~14x is at a 12-13% discount to long-term averages. These valuations appear attractive given India’s structural growth differential vs. the developed world.
Policy action from the Government has started – it has recently cleared 9 coal blocks, raised Foreign Direct Investment (FDI) limits on FM radio, approved e-auction of FM licenses and cleared the FDI in BP-RIL and Vedanta-Cairn deals, and is likely to approve FDI in retail, and has cleared the next set of fertilizer sector reforms. A consensus on adoption of Goods and Service Tax (GST) and the Lok Pal bill are the key reform measures which will improve market sentiment. We expect the equity markets to remain volatile in the immediate near term, as quarterly numbers will result in a few surprises and the uncertainty affecting global equity markets subsides. However, the second half, post September, should be better, provided a decisive solution is found to the Euro-area issues.
The current low valuations and the expectation that growth would rebound to over 8% in FY 2013, lead us to believe that the equity markets will rerate and deliver handsome returns over the next one year. Even over the longer term, equities should deliver better returns compared with other assets, as India’s capex cycle is rejuvenated, and our structural demographic advantages attract long term investments into the markets.
Your view on the debt and money market? What kind of balance should investors have in these times?
With a view to combat high inflation the Reserve Bank of India (RBI) has been raising policy interest rates steadily since March 2010 and market liquidity has also been kept tight. While inflation continues to remain at elevated levels, given the signs of slowing in the economy, we feel that we are close to the peak in terms of policy rate hikes. One cannot rule out a further 0.25% rise in REPO rates in the next policy review in September 2011. The interest hikes have largely impacted the shorter end of the interest rate curve, with yields on short term papers climbing higher over the last one year.
At the current yields, investments in short term money market mutual fund schemes have become fairly attractive. Once the interest rates peak, which we expect over the next month or so, investors can look at Short term Plans and longer term debt funds. Investors can then hope to reap the benefit when interest rates climb down which can happen when inflations comes down to acceptable levels and it is no longer required to kept administered rates high.
What advice would you give retail investors in the present situation?
The current equity markets actually give an opportunity for retail investors to invest in equity with a long term view. The current valuations and prospects for a rebound in growth in the next year could result in the markets rerating and giving very handsome returns over the next year. However, over the next three to four months, the markets could remain subdued. Retail investors should start investing in a systematic manner.
Given that returns from Debt investments and Bank deposits are also fairly good, there has to be a balance in the investments in the various asset classes.