Not the right time to invest in mid-cap stocks: Sanjay Dongre

Despite volatility and macro-economic headwinds, Sanjay Dongre, senior vice-president and fund manager, UTI Mutual Fund, tells Puneet Wadhwa he has increased exposure to interest rate-sensitive sectors and expects the cement and infrastructure spaces to do well in the medium-term. Edited excerpts:

With the results season kicking off and the coming review of the monetary policy, do you think global cues could play second fiddle to domestic factors for a while?
I think both domestic as well as global factors are equally important from the Indian stock market’s point of view. Domestic factors, such as monetary policy review by the Reserve Bank of India (RBI) and measures to reduce fiscal deficit, will determine extent and timing of growth recovery in the Indian economy.

On the other hand, recessionary conditions in advanced countries may impact the exports growth prospects. Any large scale financial instability in the US/Euro region may lead to financial crisis in the global economy and may impact the risk appetite (risk ‘on’ or risk ‘off’) for capital flows into the country in the short to medium term. It could have large bearing on the growth trajectory of the Indian economy in the medium term.

What are your expectations from the June quarter results season? Do you think inflation, the rupee and crude oil movement can severely dent corporate earnings over the next few quarters?
Earnings for the April-June quarter will not be significantly different from the recent quarters. While the revenue growth is likely to be in double digits, the margin pressure will continue to impact the overall earnings. I expect the earnings growth of the Sensex companies to be in low single digit.

We will continue to see consumption-driven sectors, such as FMCG (fast-moving consumer goods) and pharmaceuticals, do well in the recently concluded quarter, but infrastructure, power, capital goods and oil and gas would continue to struggle. For these sectors to do well, interest rates have to soften more to kick-start the investment cycle in the economy.

Rupee depreciation may benefit the export-oriented sectors like software and pharmaceuticals, while it may impact sectors like capital goods due to net import status. Telecom and infrastructure sectors will also get impacted due to the rupee’s depreciation.

The markets world over have swung between bouts of hope, optimism and pessimism in the first half of the current calendar year. What has been your investment strategy in such an environment? What returns have you been able to generate in the schemes you manage?
In the last six-nine months, it was very evident that interest rates in India have peaked. Crude oil prices have declined 20 per cent from the top and most of the commodities have witnessed a drop of at least 10 per cent in the last six months.

Against the background, we have been following the strategy of reducing the exposure to defensives and have increased exposure to the interest rate-sensitive sectors. This strategy has worked very well in the last six months. Our diversified funds performed very well and have beaten the benchmark indices in the last one year.

Do you think it is a good time to bet on the mid-cap space? Can you suggest a few themes / sectors from this space that could do well, going ahead?
Mid-caps are most vulnerable in high inflation, high interest rates and a slower growth environment. Hence, it may not be a good time to bet on the mid-cap space. Investors can look at this space once RBI cuts interest rates by 100-150 basis points cumulatively.

A lot of news has been flowing in regarding the off-beat sectors like sugar and telecom. Do you think the tide is turning for these sectors? How should investors approach them?
In the sugar sector, production has exceeded demand in the last three years, resulting in accretion to the inventory levels. Hence, sugar prices are unlikely to run away in the short term. With elevated levels of sugar cane prices, the profitability of sugar companies may continue to remain under pressure.

The telecom sector has been undergoing serious challenges and regulatory uncertainty may continue to impact the valuations of the telecom sector. Steep spectrum prices may lead to cost escalation, both on the capex and opex front, thereby impacting the profitability of the sector significantly. However, another 10 per cent fall could make the stocks attractive as most of the negatives would be priced in.

What about the infrastructure sector given the outlook for interest rates?
With expectations of decline in interest rates, going forward, this space looks attractive from a medium-term perspective.

What about the cement, textiles and fertiliser sectors? Are they a good contrarian bet in this environment?
The demand-supply gap may narrow down significantly in the next 18-24 months in the cement sector. Setting up a greenfield capacity is becoming difficult on account of land acquisition, limestone mines and environmental issues. Thus, the cement sector is an attractive opportunity from a medium-term perspective.

Though the rupee depreciation may benefit the textile sector, the slowdown in key markets like the US and European Union may continue to put pressure on the revenue and profit growth of the textile sector.

As regards the fertiliser space, players expect key reforms, especially in the area of urea pricing, which once undertaken, would be beneficial to urea manufacturers.

Source: http://www.business-standard.com/india/news/notright-time-to-invest-in-mid-cap-stocks-sanjay-dongre/480602/

Arbitrage funds fetch better returns than equity, debt schemes

Arbitrage schemes of mutual funds have fetched better returns than equity and debt schemes in the past one year, thanks to smaller asset sizes and algorithmic trading. These funds have given post-tax returns of 9% over the year, compared with 8.4% for debt funds. Value of equity funds fell 4.1%, as per a Crisil study.

Arbitrage funds take advantage of the price difference between cash and futures markets to generate returns. "Arbitrage market does not have many players these days; this factor opens up a lot of scalping opportunities. Also, machine trading is helping funds to scalp higher and sharper returns," said the chief investment officer of a bank-promoted fund house on condition of anonymity.

"All said, arbitrage fund as a category has shrunk in size. Net investment in this category is minuscule. It is not very difficult to outperform, managing small sums of money," the above-quoted CIO said.

The ability of these funds to generate higher returns depends on the volatility in equity markets - the higher the better. Over the past one year, equity markets have been volatile, thereby creating opportunities for such funds with lower assets under management to generate superior returns.

"Arbitrage funds have a low risk-return trade-off and generate moderate returns. Arbitrage opportunities to be exploited depend upon the extent of volatility in the equity market -- the higher the volatility, the higher the returns. During the volatile 2006-2008 period, arbitrage funds gave healthy post-tax returns of 8-9%," said Jiju Vidyadharan, director - funds and fixed income research, Crisil.

As arbitrage funds predominantly invest in equities, they are treated on a par with other equity funds for tax treatment. Risk-averse investors, who shy away from equities owing to high volatility, can look at arbitrage funds as a relatively safer option within equities, the Crisil study said

According to Crisil Research, arbitrage funds can act as an alternative to short-term debt funds as they have generated higher returns in the short-term. During the past three and six months, arbitrage funds gave post-tax returns of 2.38% and 4.28%, respectively, vis-a-vis 1.84% and 3.5% for debt short-term funds and 1.99% and 3.74% for ultra short-term funds.

"The dividend option of arbitrage funds is further lucrative as dividends are tax-free for equity funds, while short-maturity debt funds are subject to dividend distribution tax," Vidyadharan said.

There are 15 funds in India that use arbitrage strategies to generate returns.

Source: http://economictimes.indiatimes.com/markets/stocks/market-news/arbitrage-funds-fetch-better-returns-than-equity-debt-schemes/articleshow/15012409.cms

Poor markets biggest concern for MF industry

The newly appointed MD of Sundaram Mutual Fund Harsha Viji, feels that the market situation and not the regulatory issues is a bigger concern for the MF industry. “While one can hardly do anything about markets, tax sops and industry reforms are needed,” he said in an interview to Sandeep Singh of The Indian Express. Excerpts:

Lot of deliberations are going on around revival strategies for MF industry. What do you think is needed?

There are two things — regulatory issues and investors’ perception and value. The latter is far more significant. As of now, not only retail investors but business at large and FIIs are also down, not necessarily on India but on everything. We always talk of MF investments as long-term play but in the last five years BSE 500 has returned 2.7 per cent. I may have the conviction that now there is value in the market and it’s time to buy but it is very hard to make that case to an investor who has seen his money either go down or hardly grow over the last five years. That in my view is the single largest cause of industry woes and its not the regulatory issues.

In that case, would you say that issues of entry load, expense ratio etc, are secondary issues?

To give a fillip to the industry, tax sops are very important and government should do that. There are talks of expanding the RGESS, giving tax deductions under other sections and rejuvenating ELSS which I think makes sense.

There is nothing that you can do about markets and so tax sops and such reforms are the only things you can do.

Issues like fungibility of expense ratio and single cheque to the distributor is critical. On the entry load while Sebi is clearly against it and Amfi is also not pushing it, I am a little ambivalent about it but we will certainly not push for it. If it comes, we will use it but it will be like going back to a style of functioning that may not be in investor’s interest.

What is your view on pension funds, are you willing to take it up?

Look at it as competing against provident fund whose returns are guaranteed by the government. How can any non-guaranteed product compete. The investor has to take the risk and that is one more obstacle. No one is offering pension as it won’t work now. We will look at pension schemes if we believe it will deliver value to the investors and if we can make money on it and right now we don’t have a compelling case on either.

For sometime now your AUM is hovering around R 14,000 crore mark, are you planning for any inorganic expansion?

We don’t want to be stuck into the cycle of R 14,000 crore AUM and want to get closer to R 50,000 crore. We will never buy AUM and given the current price levels it does not make economic sense to expand by way of acquiring AMC. Also, there is no loyalty to brands and AUM.

Investors have lost money in equity investing. Do you see rebound in the near term?

Given the political situation and the global situation we don’t see any significant rebound in the next six months. High interest rate is not the issue, but there is huge amount of uncertainty on the economy, regulatory and on the government front.

Source: http://www.indianexpress.com/news/poor-markets-biggest-concern-for-mf-industry/974788/0

Is your fund batting for you?

A company decides to treble pay for its top personnel after its profits fall. A pharma major wants to sink millions into real-estate development.

As a small shareholder, you may not be able to do much to stall such ill-considered company moves. But can your mutual fund do something about it? It can; the question is whether it will.

In a bid to raise governance standards, the Securities Exchange Board of India (SEBI) has been pushing funds to take a more activist role in the companies they invest in.

A March 2010 circular also asked funds to make public their voting policy and the manner in which they cast votes at shareholder meetings.

But sifting through these disclosures on fund Web sites is a disappointment. In most cases, fund houses either seem to vote with the management or abstain from voting.

The voting disclosures of ICICI Prudential Mutual Fund, the third largest fund house, for instance, reveal that it abstained from voting on most proposals put forth by companies in its portfolio in the past financial year. The top dogs — HDFC Mutual Fund and Reliance Mutual Fund — participated in most meetings, but rarely voted against the management.

From the voting disclosures we examined, one fund that seemed fairly keen on exercising its voting rights was Franklin Templeton. There have been quite a few occasions over the past financial year when the fund has voted against company proposals for mergers, restructure, higher remuneration, etc.

Least resistance

The voting policies put up by funds supply some explanations on why many of them take the path of least resistance, when it comes to voting on company proposals.

Conflict of interests is one. Many fund sponsors in India are part of conglomerates which also have interests in banking, insurance and manufacturing. Now, voting at shareholder meetings of companies that are part of the promoter group or have a borrower relationship with the parent creates a conflict of interest.

But the question that an investor must ask is, if a fund perceives so many instances of conflict of interest with the companies it invests in, must the sponsor run a mutual fund business at all?

Fund houses also have exclusions on the company proposals they will vote on.

ICICI Prudential Mutual Fund, for instance, says that it may not vote on company proposals where its investments are below a certain minimum threshold. Quantum Mutual Fund says that it will not vote on proposals from companies that are part of its index fund, as these are passive positions.

There are other houses which state that they would vote with the management when the matter is ‘routine’. Given that the SEBI has already laid out a list of broad proposals that fund houses must exercise their voting rights on, this is a case of unnecessary hair-splitting.

Why bother?

Apart from these reasons, though, two other factors seem to work against mutual funds exercising their voting rights.

One, as a big holder of a company’s stock, a fund may be concerned about shooting itself in the foot by taking a public stance against the company’s proposal. What if the share value plunges due to the adverse publicity, taking down the fund’s net asset value?

Well, the counter to that is that if the proposed move by the company will destroy shareholder value, the stock market would surely rejoice at the move being nipped in the bud.

Two, as stocks can always be sold, why should a fund house bother with all this voting business? If against a particular move, it can simply sell its holdings.

Very true. But as key institutional players in the Indian stock market, mutual funds surely owe it to the investors and markets at large to flag the practices at India Inc that are patently detrimental to shareholders.

This may not result in Indian promoters turning over a new leaf. But the fund industry can look on this as its version of corporate social responsibility.

Source: http://www.thehindubusinessline.com/features/investment-world/mutual-funds/article3639875.ece