Nimesh Shah, Managing DIrector & CEO, ICICI Prudential Mutual Fund, shares his views on the ongoing turbulence in financial markets and what investors should be doing now, in an exclusive interaction with BusinessLine. Excerpts:

Two black swan events have taken place in the past month, election of Donald Trump as the US President and the Centre’s move to take ₹1,000 and ₹500 notes out of circulation. What are your views on these?

Of the twoevents, the greater impact comes from the demonetisation move. We believe this is a positive step with long-term gains. This move is likely to encourage many fringe players to come into the organised market. In terms of mutual fund industry, we see money flowing to mutual funds. The early indication of the same has been witnessed as inflows into this vehicle of investment have steadily grown since the move and we believe that this trend is likely to continue at a faster pace in the coming days.

With regard to US President-elect Donald Trump, it is too premature to comment on what his policies are likely to be.

What should investors be doing at this point in time?

Even after the recent correction, mid-caps continue to command a higher PE compared to large-caps. Therefore, on a risk-adjusted basis, large-caps remain attractive relative to mid-caps. The current low return on equity (ROE) points to the fact that Indian companies, especially those in pharma, telecom, power, are yet to fully utilise their established capacities.

In a country where nominal growth rate is 11 to 12 per cent, capacity utilisation has to pick up for the earnings to improve. And markets are most likely to move in tandem with the growth in earnings. If capacity utilisation of a cement plant goes up from 70 to 90 per cent, operating leverage kicks-in and earnings may improve between 40 and 50 per cent. We believe that over the next two to three years, with the rise in utilisation, markets too may be heading north.

Investors tend to look at the past returns from equity markets and extrapolate that into the future. Do you think return expectation from equity market needs to be tempered down?

I completely agree that past should not be extrapolated to project future returns, when it comes to investing in mutual funds. What an investor should understand is that money might not be made at the same rate, as it was in the past, but there would always be stocks that are likely to generate returns which could result in out-performance over the benchmark. For instance, there will be companies that could grow their earnings considerably, even in the future. It would therefore be a stock-picker’s market.

We as a fund house believe this is where dynamic asset allocation comes in. Investing through dynamic asset allocation products will help an investor balance debt and equity exposure depending on the market valuation. This strategy allows an investor to run away from risk when market is expensive and embrace risk when market is cheaply valued. We believe from an asset allocation viewpoint, there is definitely place for a balanced advantage fund in an investor's portfolio.

What’s your outlook on real estate?

We have been bearish on real estate for the last four-five years. This is because historically it has been observed that the prices of this asset class move in steps. There are phases when real estate prices move sideways and then there may be a sharp spike for the next two to three years. Since real estate had a good run between 2003 and 2012, a pause was most likely.

We will consider this asset class when there is clarity on several new regulations, including the new Real Estate Regulation Act and when the impact of demonetisation has completely played out. There is an interesting co-relation between 10-year G-Sec yield and real estate prices. It has been observed that whenever the 10-year G-Sec yield hits a bottom, real estate prices too are at a bottom.

This is because when property prices slip, loans disbursed with property as collateral also tend to move lower. Hence, banks tend to invest their surplus cash in 10-year G-Sec, bringing the yield down. It could be another 2-3 years before this cycle plays out.

Do you see any change in investor behaviour compared to five years back?

There is a marked improvement in investment awareness around mutual funds, especially around the concept of Systematic Investment Plan (SIP). Today SIP has become common in ordinary parlance. For this, I appreciate the investor awareness initiatives done by the media both in English and regional languages.

If we compare Indian mutual funds with their international counterparts, Indian funds have managed to generate higher alphas. Therefore, it is no wonder that investors are adopting this route and this is a healthy sign.

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