The Mutual Fund Show: Defensive Investing, Rising Interest Rates And More...
Having exposure to defensive stocks, which provide stable earnings throughout the year, may sound like the ideal investment strategy. For those not savvy at investing in such stocks directly, specific mutual funds can help them achieve the same
“Defensive stocks tend to be more stable during various phases of the business cycle, declining less during a downturn and hence it might be prudent for any investor who wants to protect the downside to include sectors like healthcare, information technology and utilities in their portfolios,” Salonee Sanghvi, founder of My Wealth Guide, said on BloombergQuint’s weekly series The Mutual Fund Show.
Sanghvi recommended Nippon Pharma Fund and ICICI Technology Fund as they have adequate exposure to such sectors.
Kirtan Shah, co-founder and chief executive officer of SRE Wealth, had a different take. He said the “broader answer” to the same would be hybrid funds that invest largely in equities and debt but also have exposure to preferential shares, gold, real estate investment trusts and infrastructure investment trusts.
“This feature lets these funds reduce the volatility versus pure equity funds but generate better tax-adjusted returns than a debt fund,” Shah said. For those with moderate risk appetite, he recommended balanced advantage funds like the DSP Dynamic Asset Allocation Fund, whose exposure to equity ranges from 0-100%.
For aggressive investors, he suggested aggressive hybrid funds—with 65-80% equity exposure—like the Mirae Asset Hybrid Equity Fund.
What To Do If Interest Rates Rise?
Sanghvi expects interest rates to rise over the next 2-4 quarters, and investors can eye floating rate funds for the fixed income segment of their portfolio. She recommended the ICICI Floating Rate fund, but said others could be equally effective as well.
Shah said in fixed income investing, one “should position with caution for new allocation because of the changes anticipated in the rate cycle”. Investors looking to park funds for close to one year can look at floating rate funds as they’re expected to perform better than other money market funds as yields rise. Shah endorsed the HDFC Floating Rate Debt Fund.
Nippon India’s Upcoming EV Index Fund: Invest Or Ignore?
Sanghvi said she would look at funds with multiple themes instead of niches like electric vehicle-focused fund.
She said her research suggests that battery-powered vehicles now account for 26% of new global sales and investment options include international exchange traded funds, which have a large overlap with Nasdaq 100.
Shah, too, said investors must avoid thematic funds as they’re cyclical in nature. “Unless the investor has a very high appetite for risk and a time horizon of 8-10 years, she or he should not get adventurous with more than 5% of the portfolio.” If a theme is expected to do well, growth strategy diversified schemes will also have exposure in their portfolio and that would be a better way to play any theme, he said.
Watch the full interaction here:
Salonee, what should an average investor do if she or he wants to stay invested in equities, through the mutual fund route but wants to be a bit defensive?
SALONEE SANGHVI: Actually, if you were to look at defensive essentially which is one category of stocks, these are basically businesses that deal with the necessities and essentials like healthcare consumer staples utilities, etc. and because there's a constant demand for their products they tend to be more stable during various phases of the business cycle and the market cycle as well. For example, in the global financial crisis when the index fell by 55%, FMCG stocks fell only about 3% and healthcare by 17%. Also, technology which is not traditionally considered to be a defensive sector, but it has been behaving a lot like defensive stocks especially during the current downturn. I personally feel that it's a good time to buy defensives when one has a bearish outlook on the economy because they obviously perform better during that session. Now, while there may be a correction in the markets, I think over a long-term perspective economically we are the cusp of a long-term growth trajectory. You can see shoots of that in corporate results GST collections, etc., and most large-cap, flexi-cap funds already have a good exposure, a 30% exposure to defensives, including technology which I think is a good exposure to have. Usually, a separate fund is not necessary but in case if someone still wants to be a little defensive and wants some exposure to that segment, I would recommend the ICICI Technology Fund. The fund has been around for more than 21 years, it has delivered a CAGR of 32% versus 30% of the benchmark over a five-year period, and it holds stocks like Infosys, HCL Tech, Tech Mahindra, TCS etc., and on the Pharma front, I think one can look at the Nippon Pharma Fund. The fund was launched in 2004 and it has delivered a return of around 17% versus 11% for the benchmark again over a five-year period. So, this fund also holds stocks like Sun Pharma, Dr Reddy’s, Divi’s Laboratories. So, these some segments that can give some comfort in case there were a market correction, but I feel over a longer-term perspective at this point defensive is maybe not necessarily the right way to go.
Kirtan, same question to you, somebody wants to stay invested largely in equities, wants a defensive bet. Let's assume that's the desire of the investor. What should they do?
KIRTAN SHAH: I largely concur with what Salonee did mention. My slight apprehension while we talk about retail investors is that a lot of us don't get thematic investments correct. I would say most of us don't understand because largely in my opinion, though the thematic funds are actively managed there is a layer of active management required at the retail investors end as well, because these are very cyclical and for me, I'm not sure how many of our investors watching the show will really be able to do that on their own. So, if you really ask me if the defensive theme has to be played with respect to the current market situation, I think I’d split that into two. First, in my opinion, whatever advice to you is very tactical in nature, but in my opinion if there is somebody who comes with a five-year, seven-year kind of a horizon, they can still stick to the traditional diversified funds that they've been doing but let's say they have additional money and they want to kind of park it currently till the time they get better opportunities in the market to invest, I think hybrid is a good category, to look at, at this point in time from that perspective. Now, I'm sure viewers know but the typical advantage that hybrid that in my opinion brings on board is the diversification that it brings with the funds being allowed to invest across equity, fixed income, preference shares, REITs, Gold, InvITs. Of course, that depends on what category of hybrid are you really looking at but, in my opinion, if I can split this into three let's say there are three categories of investors, the first one who is conservative, so if there is somebody who's conservative, wants to take a technical bet because he/she feels that the market is slightly expensive today can look at something called as a conservative equity savings fund. So, the conservative guy can look at equity savings fund.
These typically are funds which would tend to do 10 to 50% kind of equity exposure. Now that theoretically, it might have as high as 50% exposure, but realistically the equity exposure is much lower but if there is somebody who is kind of moderate in terms of risk profile can definitely look at something called Balanced Advantage Funds or Dynamic Asset Allocation Funds. Again, these funds are funds which can do anywhere between 0 to 100%, and all of these funds use different models to decide the kind of equity level that they really want to follow. The very specific question if there is an aggressive investor who is being in equity throughout but also wants to take a slightly more defensive bet I think aggressive hybrid fund category makes a lot of sense currently, in my opinion. So, these are funds which have 65 to 80% equity exposure, and the remaining in debt. If you look at the last couple of years, very specific performance of these funds versus Nifty, so the first thing of course we understand that with 65 to 80% they are not apple to apple to Nifty but in 9 out of 10 occasions, aggressive hybrid funds on an average category has been able to beat nifty one with a lower risk because it would typically have a 35 to 20% kind of an exposure. So, I think depending on the risk profile that you bring on board and if this is more tactical because you are concerned about the market valuations, I think hybrid can be one theme that can be considered.
Kirtan, may I just request you, what do you have some specific examples within each of these categories, it need not be the only example that you have, but maybe a couple of names would help?
KIRTAN SHAH: Absolutely, so let's see if I have to name a couple of funds, I think, while it is equity savings, I would look at Kotak Equity Savings, and probably a BAF category, I think DSP Dynamic Asset Allocation Fund makes a lot of sense to us and when we look at the aggressive category, we are more inclined towards the Mirae Asset Hybrid Equity. So, these are the three funds that we probably can look at in each of these categories.
Let's move on to the next question that a few of few people had and which is, is there some change to the debt portion of the portfolio that you can make or should make with the hypothesis that the Reserve Bank of India may make some changes to interest rates and should you position your portfolio for the same. Salonee, what's your thought and do you believe that that's going to happen and if so, what would you advise for people to do the alterations on the debt side of the portfolio?
SALONEE SANGHVI: So, I think RBI’s imperative right now is one to let growth and recovery gain further traction and second is also manage inflation. Now inflation has come off a bit to 4.35% which is well within the comfort zone. In the recent meet while RBI kept rates unchanged, they indicated that they would take measures to reduce the liquidity in the system. So, it is possible that we may see a gradual increase in interest rates over the next two to four quarters but that being said, I don't see an extremely large sudden hike. So, even if there's an increase, it could be gradual in nature. So, for those who invested based on that time horizon, I would recommend them to stay put instead of trying to churn the portfolio and incurring short-term capital gains because the benefit of a debt fund is essentially also your long-term capital gains. For new investments, it would be better to look at the shorter end of the duration and gain advantage of rising interest rates. I think one category that we can look at in this segment is floater funds. Floating rate funds offer a floating rate, which would be the beneficiary of any interest rate hike. Since currently obviously there are limited floating rate instruments available, funds basically enter into a swap to convert the fixed rate papers into floating rate. I think that could be a good way to play, given an increase in interest rates going forward.
So, effectively you're saying that you are opting for the floating rate funds, simply because there is a possibility that there could be an upward trajectory to rates and therefore, having a floating rate as opposed to a fixed rate, in the parlance of what home loans are is advantageous for an investor. Therefore, what kind of floating rate funds or is there a particular house or a couple of funds that you recommend investors should look at?
SALONEE SANGHVI: Right, that's exactly what I mean because obviously if interest rates go up, you want the benefit of that. So, I recommend the ICICI Floating Interest Fund which is again been around for 15 years. It has a modified duration of 1.5 years and a yield of around 5.2%, also, if you look at the credit worthiness of the papers that it invests in, about 75% are in sovereign bonds and AAA-rated corporate bonds. So, I think this is actually a good way or invest in floating rate funds.
Kirtan, what are your thoughts on both the root cause if you will, and the options that an investor can exercise?
KIRTAN SHAH: Again, I'll actually concur with Salonee did mention but a couple of things at my end. So, if we deep dive slightly more in the RBI policy, I think there are two very specific mentions that RBI came up with. The first was doing away of the G-SEC and introducing a 14-day variable to reverse repo. Now, what both of these things do and without going into too much of technicality, it is going to suck out liquidity from the system. So currently there is 9-10 lakh crore worth of liquidity floating around, which probably should come down to two to three lakh crore is what I understand, reading the document that was published. Now essentially what this does is, your reverse repo rates might not go up immediately, but you would start seeing the 10-year yield and yields at the lower end of the curve starting to go up. We've already seen the 10-year move up by 20 bps move up in the last two, three weeks in anticipation of the RBI doing this. Of course, how do we get an intimation that the RBI is now keen to move up the policy rate? I think that largely comes in when the RBI will come and increase the reverse repo rate back to the 50 basis points. So traditionally we've seen repo, reverse repo in the bandwidth of a 50-basis spread which is currently 65 and that was largely done to infuse liquidity in the system. So, though Gsec and the 14-day variable reverse repo definitely gives an indication that they are okay with sucking liquidity out of the system, I think the immediate understanding that rates will start going up will be when RBI will increase, reverse repo by 15 bps or 25 bps. Having said that in my opinion there is very little that you should do or you can do with respect to your existing portfolio is because you will have to look at multiple things like Salonee did mention. But let's say if you did have additional investments to do, I think I'll break that into two. Let's say there is somebody who's looking at investing for short term let's say up to one year, I think I'll concur with Salonee that you can opt for something like an HDFC Floating Rate Debt Fund and I think it will give you the advantage of rising yields at the lower end of the curve for sure. But let's say if you want to invest money today and your investment is upwards of three years, right then floating may not work in your favour. Traditionally if you've seen in a rising interest rate situation, a strategy called ‘Barbell’ always works. Barbell in very simple language is, you put 50% of your money at the lower end of the curve, and you put 50% of your money at the higher end of the curve. So, let's say if I've got Rs 100 to invest, today I will invest Rs 50 in let's say, Aditya Birla Money Manager and I invest another Rs 50 in let's say, Aditya Birla Government Securities Fund. Now what this typically ends up doing is, while the interest rates start moving up, typically it's the lower end of the curve that moves up first given the current situation. Now the lower end of the curve, it keeps moving up and your money market fund that you've invested in will be able to reap the benefit of the higher interest rates, and because rates are extremely low at this point in time the gilt securities that you've invested in will bring in the higher YTM that you really want in your portfolio. If you're able to hold this combination for three-five years, I think that can be the best case situation for you to deploy a longer term money in debt at this point.
Salonee, one quick follow up, you mentioned about how people need to take into account the tax element as well, simply because if one is holding some investment for three years and if it makes changes in earlier than three years, then I think the benefits of indexation as well as the tax implications come into play?
SALONEE SANGHVI: Yes, that's correct. So basically, for debt, long-term capital gains kicks in after three years. So, after three years you get the indexation and post indexation, it's 20%. So, that works out to an effective tax rate of 10 to 15%, and that is where the strength of debt mutual funds also lie in that taxation benefit, especially over a longer term.
The last question that we want to be answered on the show from our experts, is a very peculiar one. It's not something that happens too often so I am narrowing down the number of people who might be interested in this, but still important and Kirtan and I want to start with you on this. Nippon India filed a Electric Vehicle Index Fund with Sebi. Now with the presumption that all of it passes the muster and eventually there is an EV Index Fund out there in India should investors take exposure to this, what kind of investor should take exposure to this? Give us your reasons?
KIRTAN SHAH: I'm not very comfortable on two parameters. First is, I'm generally not a very gung-ho advisor when it comes to NFOs because there is hardly any data to fall back on and while you have multiple other options available, it's slightly disheartening at least at my end to go ahead and recommend an NFO. But of course when we talk about a thematic fund, again, like I did mention, the first question that we were discussing thematic is extremely cyclical in nature and I would repeat what I just said in the last question as well, is that while the fund is going to follow active investment strategy, the investor needs to be active over and above the funds active management which in my opinion unless you are really advised looking at your requirement and your background works well but not in my opinion for general audience.
So, who should look at it in my opinion, I think somebody who brings in extremely high risk appetite, has 8-10 plus years of time horizon, because if you look at all of these thematic funds that have been launched over the years since 2008, they've all followed a seven- eight year cycle, where they've had seven-eight years of good performance and then 10-12 years of bad performance. So, my opinion somebody with a 10-years of investment horizon and an extremely high-risk appetite should or can look at it but don't get too adventurous with more than 5% of your portfolio in this.
Salonee, what are your views on this one?
SALONEE SANGHVI: I think I agree with the Kirtan with regards to NFOs, I prefer funds which have a slightly longer track record to evaluate them but that being said, actually it's interesting that you picked this topic because, lately a lot of people have been coming up to me and asking me about how do you kind of get exposure to electric vehicles? It's a segment that accounts for 26% of global sales and is going to become 10x in 10 years so everyone wants to be a part of this theme essentially. If you look at the main way of investing and this is essentially index funds or ETFs, which largely are in the U.S., and about 60 to 70% of the companies in those are also listed in the U.S., so if you were to look at the composition, these would include companies like Tesla, Alphabet, Nvidia, Microsoft, Apple, Intel, etc. I feel there's a large overlap with NASDAQ 100. So, my recommendation would be instead of investing in an EV-specific index, it would make more sense to invest in on NASDAQ 100 because not only do you get exposure to the electric medical theme but you're also able to play on multiple themes, instead of just one specific theme. Again, because the NASDAQ has a lot of companies and a lot of sectors which are actually not present in India, and which you can’t invest in, in India, it gives you a good exposure to that.
How does one invest in such a fund, the NASDAQ 100?
SALONEE SANGHVI: You have multiple options are in India to do that. Motilal Oswal has a NASDAQ 100 ETF and a fund of funds which can be used to get exposure there.