The Hindu Business Line : `We will use hybrid modelling to limit downside for investors'

This hybrid model has a three-year horizon. It does not really matter if you are 17 or 70; you can still try to achieve the same objective in three years. — MR MUGUNTHAN SIVA, CHIEF INVESTMENT OFFICER, OPTIMIX

OptiMix's new close-ended Fund of Funds is ideal for investors with a three-year horizon who want to participate in equities but want limited downside, says Mr Mugunthan Siva, CIO of OptiMix, who was in Chennai recently for the launch of OptiMix Dynamic Multi- manager FoF Series II. The new fund has a three-year lock-in period. Based on a quantitative model, the fund would dynamically switch between debt and equity and has the flexibility to invest up to 100 per cent in debt or equity funds. In a chat with Business Line, Mr Siva explained how the new fund would attempt to limit downside while striving to deliver equity-like returns.

Excerpts from the interview:

Tell us about the model adopted for your new product?

The concept is to offer the upside of the equity market and provide a limited downside. The quant-based model does the asset allocation. It decides how much to invest in debt and equity. Once the allocation is decided, it is up to us to decide which funds to invest in equity and which ones in fixed income.

Initially, those are the two asset classes, but as we see the advent of emerging market funds, international funds or gold funds, we will be adding those as well. But all these models are designed with the intention of catering to Indian investors who, particularly in today's environment, want the upside but not the downside.

How are you certain of limiting this downside?

Through hybrid modelling. It is based on a concept called CPPI — Constant Proportion Portfolio Insurance. You take into account two factors: the prevailing NAV and how far you have to go in the three-year period (time to expiry). That determines how much to allocate to equity. For example, if you say Rs 82 in fixed income will grow to Rs 100 in three years, then you put the remaining Rs 18 in equities and it will grow to a certain amount.

However, a more complex approach would say that because you have three years to go, you could use a certain multiplier factor that is designed to take into account volatility of the market.

A multiplier of four would mean Rs 72 in equities, instead of Rs 18. If the NAV were then to increase from Rs 10 to Rs 12, then you might take your equity to Rs 95, because you have already built a buffer. If it slides from Rs 12, then you reduce equity from that level.

But hasn't history proved that it is difficult to time the market?

That's why we have this model. The achievement of limited downside is a condition of the model that takes into account market volatility, time to maturity and investment returns and then determines the allocation amount. At no stage does the CIO or fund manager say: "I think the market will go to 15,000, so let's be 80 per cent in equity". Where we will take a call is, say, that we are bullish on infrastructure or on banking. We would then have a banking fund. We will take a call on which equity funds, but not on how much equity.

Is this strategy superior to one where you have a fixed asset allocation depending on age and risk profile?

That is a different model. That's where I use strategic asset allocation, where at 30, I will be 100 per cent in equities, at 40, maybe 80 per cent, and so on. That's probably a long-term investment concept and it works as well. It simply relies on the idea that you have a greater time to expiry.

Here, you only have a three-year horizon. It would not really matter whether you are 17 or 70 because you are still trying to achieve the same objective in three years.

So, irrespective of one's risk profile, an investor with a three-year target return would be able to invest in this fund?

Yes, an investor who says, "I want to participate (in equity) but do not want the risk", would find it an ideal situation over a three-year period. It is a close-ended product, but it allows you to exit every 15 days.

But the NAV could go to Rs 9 over one year and can catch up in the next two years. So the objective is reached only if you stay locked in for three years.

Are entry and exit loads waived for the Fund of Funds when it invests in other schemes?

Yes, most AMCs have a Fund of Funds option, where entry and exit loads are waived. That is one of the benefits of Fund of Funds. If we take a view on, say banking, and three months later there is a sharp rally in the sector — 25 per cent better than the market — we can exit the fund without paying capital gains tax on the sale of the fund, nor do we pay an entry load when we enter another fund.

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