The Mutual Fund Show: How To Make The Most Of Your Year-End Bonus
An employee counts Indian rupee banknotes in Hyderabad, India. Photographer: Dhiraj Singh/Bloomberg

The Mutual Fund Show: How To Make The Most Of Your Year-End Bonus

With just a month left for the financial year 2019-20 to end, this is usually the time when many employees get their annual increments or performance bonuses. If you are likely to get the yearly payout, the head of Sundaram Mutual Fund suggests ways to put it to best use.

“For a lumpsum, an individual can allocate the surplus as follows: 30 percent in a large-cap, 20 percent in a mid-cap, 10 percent in small-cap fund, and the balance 40 percent in a multi-cap fund,” Sunil Subramaniam, managing director and chief executive officer at Sundaram Mutual Fund, said in BloombergQuint’s special series The Mutual Fund Show. For someone preferring a staggered approach through systematic investment plans; Subramaniam recommends a portfolio comprising 60 percent small and mid caps and 40 percent large caps.

For more on how to deploy surplus, what the full video here

Here are the edited excerpts from the interview.

I know a lot of people these days would say that if jobs don’t come back in a hurry then the demographic dividend could become a demographic curse. But be that as it may with the presumption that all turns out well, there are measurable factors which could make people understand why they should invest for the long term.

Absolutely, and you’re right. This demographic dividend has been talked about for a long time and if we don’t create jobs, as you said, it could be a curse. But I think the interesting point at this time is that it’s not just about India’s demographic dividend, but also the destruction of the demography of our main competitor: China, which is actually aiding the process here. So, what I mean here is that China was the one which took advantage of the demographic dividend over the last decade and their per capita rose from $2,000 to $10,000.

But curiously enough, they themselves felt the burden of the demography and hence instituted a one family, one child policy very rigidly. As a result, today having built up all that manufacturing capacity and their ability to deliver, what’s happening today is that over the next decade, China is going to lose 5 crore people from their working-age group. Since people are getting older and moving out, there isn’t enough fresh production of people.

The fact that India did not do such a family planning kind of a programme, means that today India is where China was in 2005-06: A, in terms of the population, B, in terms of the cost. So, just to elaborate this as I said, over a period of time China is losing 5 crore people. So, if you put that down to just a 7-year-old bracket where an inter-country comparison has been done, China loses 2 crore or 20 million people up to 2027. Conversely, India adds 117 million people. Six times the amount of that China is losing, India’s is adding to its working-age population. Mind you this production has already happened. These people are already born, it is not something we need to sit up. So, we are sitting with a huge base and the next biggest country is Indonesia, with 20 million.

So, we have 6 times (demographic dividend) any competitor. So, the point is that China has demonstrated the path, it has made them with the manufacturing capital and today it is dealing with the fact that it cannot execute that order and the size of the opportunity. Just to the U.S., China does $540 billion of exports. India exports $54 billion. So, there is about a 10 percent shift in China’s U.S. exports to India, which will double our export base. So, the size of the opportunity is huge and today India is at the same per capita income that China was 10 years ago.

So, today if an iPhone has to be made and let’s say, an average labourer is charging you $10 an hour here, he is charging $50 an hour there. So, India’s competitiveness are: A, the supply of labour, B, the cost of labour and, C, the sheer size of this issue to provide jobs to 160 million. This means the government will be forced to act because it is also the biggest emerging vote bank for the country. So, the fact that the government will get its act together over the period of the next few years, I think, is a given. Whatever has happened in the past I think if you look at it, these are inexorable forces. China can’t create people overnight and the beauty of it as we did a survey of Chinese companies (CFOs) and they said China actually was looking at India as the place where they would like to shift the back-end of their production. This is in order to keep the front end- they keep themselves, re-export back to China, then export to the U.S..

So, the Chinese are very pragmatic, and they are realising this. I think that’s where the key opportunity for the investor comes in because what this means is that the GDP growth of the country, is essentially now based on the fact that a manufacturing base in China is gradually going to shift to India and with that, also boost GDP growth. To take the argument forward in terms of what’s the next step on this is that for India to then replace a portion of China as a supply to the world, Indian companies can’t do it because technologically and quality-wise we are not there. So, the route to this would be for foreign manufacturers to come and set up shop in India and use India as a manufacturing base and then re-export.

What does all of this have in store for an average mutual fund investor? I mean how does he benefit from the overall size and then, are there specific themes or thematic funds? How does one approach this with a mutual fund investing perspective?

So, basically, if you look at it, in the short run, the markets and the economy sometimes diverge, sometimes converge. But, if you take over a longer period, (things change). That’s why we’re talking about a decade here, if you take the last 15 years, for example, the nominal GDP growth has been 12-13 percent of the new economy.

The large cap represented by the Nifty has shown an earnings growth of 13 percent per annum and the stock market, strangely enough, has delivered 14 percent per annum. So, over a long period of time ultimately, the earnings of companies are a function of GDP growth and the stock market is a slave to those earnings and mutual funds derive and play off that to deliver the alpha. So, what I have laid out here is a certain demography-positive driven GDP growth path.

So, even if you took that GDP growth which is today at a nominal of 10 percent and you give the government about three years to get its act in order (land and labour reforms) you can see that the pace of this will rapidly escalate over the decade. Therefore, by the end of the decade, I see a set of about 15 percent nominal GDP in the last few years earlier and possibly the next decade, we could be at a double-digit real GDP growth. But even with this kind of a staggering growth rate, I see that for India to grow nominal GDP at 13 percent over the decade is not a challenge. That’s what the math says. You start off with 10, go on to 12 and then to 15.

Generally, what mutual funds do is to pick the better sector so, what is the key factor here? It is going to be manufacturing because that’s what is going to be. Second, it is going to be capital goods because we knew how to supply capital goods to that. Then you need to have services too for every manufacturing job. So, clearly mutual funds are able to choose sectors which are going to do better than other sectors and hence, deliver an alpha. So, if you look at it, mid-cap funds have delivered over the last decade or brought 4 percent per annum an alpha over the broader market. Small-cap funds have delivered 3 percent. Large-cap has been iffy because EPFs and others have come in and have leveled the playing field. So, if you have a multi-cap portfolio, I think 4 at one end and flat at the other. So, you take 2 on an average which is incidentally closely what multi-cap funds have delivered with over 1.7- 1.8. So 13 percent nominal GDP growth should result in 13 percent large-cap earnings growth. But a multi-cap and a mutual fund combined together, there will be little bit of alpha from multi-cap EPS and a little bit of alpha from the fund manager’s selection of stocks and sectors. A 15 percent growth per annum in your equity mutual fund portfolio as long as you’re broadly diversified; across small, mid, and large sectors is not going to be a challenge. But the interesting point of that kind of compounding actually makes you realise that even though in India we talk about our Rs 5-trillion (Rs 5 lakh crore) GDP, if this plays out the Indian stock market could be a five-trillion market cap. What this means for an investor’s personal wealth that is that if this part is churned out, it could be that you quadruple your wealth over this decade.

So, that’s where I wanted to tell people that the basic building blocks are already in place. It is the execution and it’s a question of timing for the execution. But if you give yourself a decade long in the stock markets and give it to an expert fund manager to do the diversification and stock selection, then I’m saying that even if you take the lower end of the band, this 10 percent which you are already achieving doesn’t go anywhere. It stays 10 percent, you still end up with a 3x multiplier.

So, I’m just saying that to me even for a 4x is a conservative number because I’ve built in certain delays in the whole process given that we are a democracy, we can’t just do all those things like China did. The addition to this, when this manufacturing happens, the job creation happens you have the leg which supports the economy, which is consumption. So, the manufacturing will drive this, the consumption story had some other legs to support it apart from just a job-creation related matter.

So, you are saying that people should largely invest in multi-cap funds because they will capture the best of both worlds. But they should not necessarily get into thematic funds. Or are you saying the thematic funds also will be there? Consumption, for example, I don’t think there are manufacturing-based funds.

But obviously when you look at a 10-year period, I don’t recommend thematic funds because thematics go through cyclicalities. A multi-cap fund gives you the advantage that they carry multi themes and they carry multi caps. So, there’s an expert fund manager sitting there who reallocates as he sees the winds of change. For an individual investor, he will sit there and say, “now is the time for manufacturing, now’s the time for consumption.” That’s why I’m saying, when I say multi cap because you are essentially delegating to the fund manager, you must choose the next foreseeable future. which will do better. When you feel that has achieved its purpose, please shift it along. So, that’s why I think multi cap is good to bet.

Since you mentioned consumption, I should also tell you that there are other factors in consumption which are going to give you a boost here. One is that with per capita income, you should not make an assumption. We don’t hit the China numbers because China went from 2 to 10. Right now, that kind of thing in India, let’s say you do only half of that. What that means is that within the mix of the population (including the poor, the lower middle class) already this changing trend is in place. There’s a rapid reduction in the poor and a rapid rise in the upper-middle class and the rich.

So, fundamentally, from a consumption perspective, what happens is, the poor people are worried about ‘Roti-Kapda-Makan’ their basic needs. As you grow up the income ladder, you tend to have a discretionary consumption. So, those are higher-value products, longer-held products, and so consumption industry will get a strong boost from that. Second, if you make a comparison with China, it was buying six million cars in 2006 when it was at same per capita as India. They went from 6 million to 30 million.

The Indian car story seems to have taken a bit of a stall right now.

That is only because of the Bharat Stage-VI and you have the financing crisis. But look at the decade, these are all things and they all will pass. I don’t think that’s something that’s going to sustain for a very long period of time. So, that’s one.

The second thing which is happening very fundamentally is the fact that interest rates are trending down and loan tenors are going up. So, you see the affordability factor that’s changing hugely. Another factor which is changing is the urbanisation of India. If the proportion of India living in the top cities versus this, and you have a lot of reurbanisation now, smart cities and all are converting. So, a person who was sitting in the rural India wears a shirt and a dhoti, a guy comes here and wears a jeans. Quantity and the quality of his expenditure changes and there’s a breakup of the joint family system.

So, that’s a whole bunch of factors which are converging together. Again, I said you need to have a perspective of a decade because this is going to happen in 2022 or 2024. I don’t know but I know that is definitely going to happen by 2027 to 30. So, if you take that perspective and say this money I will set aside for 10 years and not look at it, I’m saying that the money which is going to deliver the best return for you and not get swayed by what’s happening in the course of the journey.

Let’s say you get Rs 1 lakh as a onetime bonus in the month of March and your monthly salary let’s say is Rs 50,000. Whatever your expenses may be, how do you deploy that lump sum right now within funds what categories would you choose, looking at the long term and what kind of SIPs would you start looking at the long term again from that Rs 50,000?

So, I think that the right allocation from a capital perspective would be 65 percent in large cap and 35 percent mid and small — mid maybe 25 percent and small 10 percent. This is through the allocation of his capital perspective.

For lumpsum investing, I would say that if you take your capital and divide it into 30 percent, 20 percent and 10 percent. Half of your capital you put it into 30 percent in large cap, 20 percent in mid-cap 10 percent in small cap. The balance 40 percent, you put in the multi-cap fund.
Sunil Subramaniam, Managing Director and CEO, Sundaram Mutual Fund

All equity linked funds?

All equity linked funds. For over 10 years if you want deliver value, it has got to be equity. Your fixed income is essentially something which will be trying to give you an FD-plus return, but this is something which is going to give you possibly double the rate of inflation.

You would be doing that right now? This is how you would presume a lump sum money should be invested?

Yes. So, you allocate at 60 percent into the three segments in the way I said and the balance 40, you hand it over to a multi-cap fund manager. The reason I say this is, while you do this once a year, you look at it what your multi-cap fund managers portfolio has done. Then you relocate your half and give half to fund manager. That way you’re getting the benefit of the expert advice into your portfolio. You start this way and if your multi-cap is following the same pattern, you give him the chance. One year later you look at it and say what is he doing? How much is in large-cap, mid-cap? Then you allocate 60 percent of your active allocation according to multi-cap thing. That way, it is a guidance journey to the thing, but you are not losing out both on the worlds.

The SIP part, I would reverse the ratio in terms of mid, small and large cap. This is because, mid and small caps tend to be more volatile but since I see this whole thing ending on the high, SIP will always do better for you when there is intermittent volatility in the middle but the end is higher than the beginning. So, these are the two. When the SIPs don’t do well, is when it is a very stable market but at the end is lower than that. So, if we just flipped that side, I see that the end is going to be very good and I see that there’s going to be lots of volatility in the journey. So, in an SIP, I would actually say that you put 60 percent of your portfolio in small and mid caps and only 40 percent in large caps.

What are the risks to this growth assumptions? You mentioned at the start that you’ve been conservative when you’ve looked at these numbers

When you say this 2030 as a decade, this 4x fund happen in 2031 or 2029. So, when you set this as a goal, I would say you decide. Are you reasonably bullish, say, what you want when you hit 4x? Exit. So, you may do it in 2028. You shouldn’t say 2030 is the year so I’lI wait. No. because markets tend to be lead indicators. So, if you’ve got that goal, I have given you the guidance. 4x multiply it for capital and that is a very good return to be met. If you make that a bit earlier, than you exit at that time.

That’s the risk with mutual fund: timing. Second, if you’ve given 10 years to any fund manager, generally he will deliver. So, it’s not about fund manager’s selection so much but I would say that we talked about rolling returns. So, I would encourage all to look at the rolling returns track record of various fund managers and see in a 10-year period, which is the fund manager who has the better average return and the least—minimum and the maximum.

The other thing is also is that try and choose some place where the fund managers been there for 10 years because the likelihood that he’ll be there for the next 10 years. Then you’re buying the fund manager himself and not just the AMC. Somebody changes the course in the middle and that may change the way and thought process of the investor.

So, mutual fund risks essentially these things that the consistency of the thought process pays dividend in the long run but that person must be in the job for the consistency to pay off. So, you can generally take a call saying this guy has stayed for 10 years and is not likely to shift.

The other risk here would be that, as manufacturing goes up and consumption takes advantage over savings, money into mutual funds, sustainability of the flows into mutual funds over a decade. I would actually say that if people are going to get consuming more than the cost of savings. So, part of the reason mutual funds deliver returns is because people have been giving more and more money to mutual funds. So, that’s over a 10-year period. That’s something which as a demographic trend on how people save versus consume, we have to observe and see.

So, that’s another risk factor from a longer-term perspective. Finally, I would say that from the economy perspective, the risk factor comes from the fact that if the government doesn’t succeed in providing these jobs and we are looking at a very different scenario in the country. So, obviously the basic thing is and the risk to this whole perspective to this is, there is this force of automation which is actually trying to reduce the number of people working. We are entering to the phase when automation is picking up and India is surplus labour. So, what India has to do is to make automation less competitive.

So, that’s why I took per capita income only after Rs 5,000 in 10 years. The reason is that, we can’t replicate the China story. The labour cost will not jump up as much as China’s jumped up because you have to take lesser wages if you want to compete with that machine at the other end. So, again this is a risk factor to the whole thing.

You have an NFO open. Can you quickly tell us what is this fund about what’s the rationale for launching this fund the current point of time?

This fund is called a balanced advantage fund. So, it’s actually a dynamic asset allocation fund. What it does it takes the money; it puts it across equities and fixed income on the other end and this is class called arbitrage which actually is hedged equities. The other beauty of this fund is that within the equity allocation it does mid-cap, small-cap and large-cap. So, the dynamism of this fund means that what it is trying to do is that broadly give you an equity-oriented fund.

So, if we are negative on equity which is generally judged by the P/E ratio of the market, evaluations are too high, we reduce the equity component but we may try to maintain the taxation of 65 percent by using hedged equities as a component. So, hedged equities have this advantage, they give you a fixed income like returns but equity in taxation. So, using that we can actually run a portfolio with one-third risk, two-third safety and at the same time, give you equity taxation.

The idea being this fund is that in the journey ahead, India’s recovery story is good but markets being lead indicators, prices tend to rise ahead of the actual earnings coming through. So, there are periods in the market where the valuation seems very high and then there are periods when the reverse happens in a typical cyclical story. So, what this fund is trying to do is while keeping the focus on equities as the asset class was going to deliver long term wealth creation, is trying to manage the emotional journey of the customer but when valuations are high and he looks at this portfolio, it wouldn’t be taking so much risk.

So, it’s a thing where I would say that the journey is to the pot of gold at the end of the rainbow where the journey is also being managed. Because customers have an emotional aspect to their investing apart from the end goal. I think the balance advantage category essentially is to cater to keeping the customer happy in the journey to wealth creation. Today’s time is ideal because as we are seeing in the last six months, small and mid caps have rallied... So, you are in that kind of a state where market is saying future looks good, but till the future actually is going to turn good until then you’re going to have this little bit of a thought process. So, this one helps to manage that. That’s why it comes into the hybrid category which is a little bit of this and that.

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