The Hindu Business Line : `We rely on collective judgement'

With over $1,000 billion in assets under management, JP Morgan is one of the global giants in the fund management business. The company forayed into India's mutual fund industry in 2006 and unveiled its first product offering, JPMorgan India Equity Fund, towards end of April. Mr Krishnamurthy Vijayan, the Chief Executive Officer, who took over last year, has two decades of experience in India's mutual fund industry. Business Line caught up with Mr Vijayan in Chennai; the conversation ranged from what is drawing large foreign fund houses into India now, to how interest rates will impact stock valuations.

Excerpts from the interview:

Quite a few foreign fund houses wound up their India operations between 2000 and 2005. Now, there seems to be an influx of foreign funds keen to set up shop in India. What has really changed over these years, to make the Indian market an attractive destination for foreign houses?

One clear reason for the interest in the Indian market is the growth in its size. The first wave of funds, which came in the 1990-94 period, were largely of domestic origin. From 1995 onwards, you had a wave of foreign funds.

However, these were smaller, specialist fund houses entering the smaller markets. Now, what you are seeing is houses that are really large and belong to the $1-trillion club entering India. These funds typically look at the size of a market before entering it. They look at a $100-billion market as being viable.

Second, they look at the regulatory framework. We do now have a framework that is ahead of most developed markets. The third factor is the maturity level of the markets. Though everybody can manage a diversified equity fund, you need to be able to differentiate your fund from others.

What are changes that JP Morgan sees in India? One, growth in the number of SIP (systematic investment plan) investments — this is a sign of the number of investors who are willing to take a long-term bet on equity. From a psyche of being merely punters, Second, the concept of star fund managers is fading out. The large fund houses coming in today are looking at models that de-risk the decision-making process.

How is that done?

At JP Morgan, no fund has just one fund manager, every fund has at least two managers. Second, these managers are not just a part of a local team; they are part of a global group. They contribute to the global pool of information and also take away from it. Each of our fund managers makes multiple company visits and this information is captured in a common IT platform that everybody in the team can draw from.

Trends seen in one market are extrapolated to others. Therefore, the inputs that we receive on one sector or company from China or Brazil may be a cue to look at a sector or a company in India. Three, fund managers are not expected make their decisions in isolation, but as a part of a group. We rely on collective judgement rather than on the judgement of an individual fund manager.

You talked about a market size of $100 billion. But isn't there a performance-chasing dimension to the recent inflows into equity funds? Are these flows sustainable?

The market size is already at $80 billion and growth has been rapid in recent years. On the trend of chasing performance, investors have become a bit nervous about visible short-term performance. That is why STPs and SIPs are on the rise. These clearly are people who are looking at long term — 10-15 year performance.

On new funds, I think response has to a large extent been based on the fund house. I would think investor response is a function of how much a distributor recommends a product. Fund houses that have shown consistent performance have managed to get the money; those whose performance doesn't look sustainable haven't managed to. In this business, the investor doesn't make his decisions alone. He depends a lot for moral support on the distributor.

Are distributors becoming good evaluators of fund performance?

I would say they are. Up to a certain stage in a business, incentives drive growth. But at a certain stage, there is a saturation of incentives; all incentives become hygiene factors. Thereafter, the motivation changes — the motivation (for the distributor) lies in sticking your neck out and providing good advice to investors. Distributors realise that they have an ongoing relationship with their clients and this depends on good advice. Even if you change jobs, you have to go back to the same clients. Because of that, distributors too are looking for quality fund houses with genuinely innovative products.

Will the JP Morgan India Equity Fund have a similar portfolio to the global (India-dedicated) funds that you manage?

The global funds are more than 10 years old. Many of the stocks that we hold in those portfolios may already be mature themes and we may be in the process of reducing exposure to those; several of the new themes that we are looking at may not figure in these portfolios. So the two portfolios may look quite different. Our investment universe is quite broad-based.

But one core value for us is that we never buy a stock in which we do not have strong conviction. If we have taken a small position in a stock and we cannot build further on it, we will exit it. We usually don't have a huge "tail" in our portfolio. We will not have a huge diversified portfolio. We believe that if you cannot know a stock, monitor it and track it continuously for changes, it is not worth buying.

In the global context, your portfolios are mostly large-cap oriented. Will the Indian funds have a similar profile?

If you ask us whether we are market-cap constrained, the answer is no. Some of our offshore funds are really large — the biggest one is $4 billion in size. If I am faced with a redemption on that fund, I would like to be able to liquidate stocks without diluting the portfolio composition; which is why I may not hold too many small cap stocks in that fund.

There are other funds that are $140-150 million or even smaller in size and in those funds we can take small-cap stocks. In fact, we do have an India-dedicated fund that is focused on small-cap stocks. We would buy small-cap stocks if we have strong enough conviction that they could be multi-baggers. The one important constraint is that the stock should be liquid enough for us to be able to exit easily.

Several fund managers are today talking of moving from large- to mid-cap stocks because they think valuations of the latter are more attractive. What is your view?

Many people take the view that India is overvalued because the index is running at a multiple that is higher than those in other emerging markets. Over the past few years, India has managed a 8 per cent economic growth. Very efficiently, Indian companies have turned that into bottom line profits, that are growing at a much higher rate.

Sell-side analysts in India have got their profit projections wrong year after year and actual profits have generally exceeded projections.

What is your view on stocks in interest rate-sensitive sectors such as automobiles that have been marked down quite sharply in the markets?

Our debt fund managers believe that interest rates have more or less peaked out. Second, for a country that is growing at this pace, some amount of upward pressure on interest rates is inevitable.

In rate-sensitive sectors, the risk is more or less factored into the price. In terms of gearing, the companies that are over-geared are the ones that have been punished the most. Since our approach is very bottom-up, we usually do not take a view on a sector as a whole, but look at each company. Sectors that we have consciously stayed away from are real estate and downstream oil; but otherwise our view is pretty much stock-specific.

Having struggled to beat the indices in 2006, will actively managed funds in India find it difficult to beat the indices over, say, the next five years?

Index funds may become a bigger asset class if there is considerable effort taken to promote them and reduce their cost structure. However, I think active fund managers will continue to do better than the indices over the long term. I say this because indices tend to be retrospective in nature. Index stocks usually tend to be those stocks that have done extremely well in the past. An active fund manager who has reasonable judgement will certainly be in a better position to take a forward looking view and select stocks that will do well in the future.

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