In an action-packed week for markets as well as mutual funds, Vetri Subramaniam, Chief Investment Officer of UTI Asset Management, spoke to bl.portfolio on his reading of the Fed rate hike, why the current market valuation present a good entry point, as well as where debt funds still continue to score after the removal of tax arbitrage.
We are at a juncture where further financial stability concerns could emerge as the sharp increase in rates exposes fault lines. I don’t think the consensus estimates(FY24) capture the risk to earnings from an escalation of financial stability concernsVetri SubramaniamChief Investment Officer of UTI Asset Management
Market has dropped 10-11 per cent from December 2022 peak. Is it a good time to buy?
More than the market falling 10 per cent from the recent peak, the bigger story is that we are at the same levels as that of September 2021. Since then, Nifty earnings has already gone up – by almost 40 per cent in FY22 and is expected to grow in single digits this year. So, it has done the descent from being in fairly rich territory in terms of valuation to becoming more reasonable now. Whether it is price to book, trailing or forward earnings, it is not back to long-term average, but certainly back in the comfort zone. May be the valuations are not attractive enough to make a large lumpsum investment, but staggered investments are recommended. In terms of sectors, looking at current valuations vis-a-vis the potential growth opportunities, we think banking and automobiles hold promise. I have been positive pharma and healthcare since a year ago. While it has done badly, I still think there is opportunity there. There are also some companies which were impacted by very high energy prices or supply chain disruption, and those trends are behind us, providing some opportunities.
The trailing valuation of Nifty is around 20 times. Is the downside risk reasonably captured here? New threats have emerged in the last two weeks…
To understand things from a downside perspective is very hard to do. I have seen markets trade at single-digit PE in my career. The bigger point here is that you cannot catch the bottom. Make sure you are invested at reasonable valuation and at not extreme valuation. The other part is earnings downside. When I look at Bloomberg consensus EPS, there is still about 18 per cent earnings growth forecast for FY24. In India, Q3 GDP growth is already only over 4 per cent and it is very likely that Q4 also ends up in the 4 or 5 per cent territory. Economic Survey/Budget had mentioned 6-6.8 per cent GDP growth in FY24, but if I look at professional economists, currently their forecast is sub-6 per cent. Incremental news over the last two months has also been negative – China’s growth impetus is not all that great and financial stability issues have arisen in the West. We are at a juncture where further financial stability concerns could emerge as the sharp increase in rates exposes fault lines. To my mind, there is downside risk to FY24 earnings growth stemming from weaker GDP growth, subdued sentiments and higher interest rates. I don’t think the consensus estimates capture the risk to earnings from an escalation of financial stability concerns.
What signal does the recent rate action of the US Fed and the commentary, send to global markets?
The US Fed is now being more guarded about forward guidance, given concerns about financial stability and impact of the recent banking events on credit availability. Their commitment to the 2 per cent inflation target suggests a prolonged pause looks more likely rather than a pivot.
A year or two ago, no one was talking about fixed income. Today, even equity fund managers are recommending debt as a very attractive option….
In 2021-22, if you were looking at short-term interest rates vs inflation, we were continuously at negative real returns. Today, you get a positive spread. If you look at RBI’s inflation forecast for the next few quarters, that positive spread remains. So, the current short- to mid-end of the fixed income curve is quite attractive. We are not so positive on the long-term yields. In the last 12-13 months, policy action has been very aggressive and there has been 300+ basis points (bps) of effective policy action by the RBI. But the 10-year bond yield has gone up only by 50 bps over the last year. For us, the attractive part of the yield curve is in the two-four year band where it has gone up by anywhere between 200 and 300 bps. The other factor is that 2009-2022 was an unusual period where large parts of the world have been at zero interest rates. And in this scenario, the challenge for any large asset allocator was that fixed income was yielding nothing, leaving no alternative to equities. Today, across the world fixed income has become a reasonable alternative, giving you carry. Therefore, it starts becoming core allocation.
The tax change for debt funds comes at a time when fixed income is also in the limelight. Is this a big dampener?
Debt mutual funds continue to offer the benefits of picking appropriate maturity profiles and diversification of underlying portfolios. Taxation incidence is only at the time of redemption. Further systematic withdrawal plans allow investors to plan their cash flow needs with taxation applying only to the extent of the withdrawal. We will educate customers on these benefits which continue. This change does not fundamentally alter either the yield curve or the equity risk premium. There could be a short-term pause but over the longer term we think the market opportunity is large.
You’ve been in the industry for 30 years. Today there is information overload, a lot of independent research and advice. How difficult it is to spot undiscovered stocks, take the exposure you want and generate alpha?
There is a far better research for a variety of reasons. More brokers and funds are covering the market. Institutional ‘buy’ side is no longer limited to few mutual funds. Insurance companies, FPI, AIFs, PMS are all there. Yes, it is more difficult compared to 30 years ago. Then, the challenge was to find information. Now it is how to sift the noise from the signal. And you must clearly overlay that with process, discipline that accompanies that process as well as ensure that we don’t make behavioural mistakes. The arbitrage that is left is not arbitrage of knowledge, but that of time. When I am investing, I am willing to think, one/ three/ five years, whereas there are just too many players in the market thinking tomorrow and next quarter. This is where my advantage comes from.