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WF: Invest lump-sum in duration funds and SIPs in equity funds: would you say this is a fair conclusion from your outlook presentation?
Naren: Equities may remain volatile in the near term and likely to stabilise once crude prices bottom. As the equity market is expected to be volatile till commodity prices remain weak, we recommend investing in Dynamic Asset Allocation Funds & systematically in pure equity funds as they are likely to deliver better investor experience in 2016. The outlook for debt markets is also positive. We recommend our investors with conservative profiles to invest in short- to medium-term duration funds, and accrual funds. Existing investors in long-duration funds are advised to remain invested.
WF: In 2015, large caps lost money while mid and small caps did much better. Is this divergence going to continue in 2016, given that over 50% of the top 100 companies' revenues depend on an uncertain and sluggish global market?
Naren: Currently, large-caps are undervalued and present an attractive opportunity. They have come under some stress due to selling by foreign investors. At present, mid-caps are quoting at a PE of 19.2 times while large caps are trading at 16.9 times. The valuation gap between these two segments has been the highest in the past year. Whenever there are foreign inflows coming in, we will see them invest in large caps first.
WF: You make a very important point of manufacturing capacity utilizations being at historic lows, giving rise to potential gains from operating leverage once volumes start picking up. In which sectors is this most visible?
Naren: We believe that strong operating leverage and gradual improvement in demand will improve the utilisation rate and drive corporate earnings over the next three to four quarters. We expect government to support capital expenditure in the transportation and defence sectors. Higher capacity utilisation coupled with improvement in non-performing assets in the banking space, will boost the economy. Therefore, infrastructure and banking are sectors to benefit from the phenomenon.
WF: World equity markets are now completing 7 years of a bull market that started in April 2009. This is therefore a mature bull market - perhaps with the best behind rather than ahead of it. What is your view on the US equity market, and how might that influence global equity markets including ours?
Naren: While the bull market has been long, it is only the US equity market which has given good returns. The US rate hike cycle has just started and in an environment where the interest rate returns are very low, even moderate equity returns are higher that debt returns. The advantage of the Indian equity is that the economic cycle is yet to improve. That's why we believe India has the potential to outperform the US & Global equity markets over a period of time.
WF: Based on your proprietary valuation indices, debt looks relatively more attractively valued than equity right now. Would this mean that debt markets may outperform equity in 2016?
Naren: The valuation models for debt and equity are independent of each other. In 2016, we believe equities may remain volatile in the near term and likely to stabilise once crude prices bottom. The expectation of a good monsoon after two years for failure, improvement in asset quality of banks, speedy implementation of reforms, higher capacity utilisation and eventual earnings growth are likely triggers for the equity markets in 2016. Equities are likely to create wealth for investors over the next 3-5 years.
As for debt markets, Despite the 125 basis-points cut in the benchmark repo rate this year, the performance was lacklustre as retail and global investors shied away from debt market. Yet, India was among the best performing debt markets in 2015 and we believe that the outlook for 2016 is encouraging.
10 year G-Sec yields are trading well above the repo rate and the spread is over 100 bps. Such high spreads are rarely seen during a rate-cut cycle, and they are likely to reduce in the near term. Moreover, a further cut of 50 to 75 basis points in repo rate is expected due to conducive macroeconomic factors, benign commodity prices, and an improvement in banks' asset quality. Overall in 2016, the outlook for debt markets is positive.
WF: Government infra spending and urban consumption seem to be the key drivers for 2016. Given that these have been popular themes through 2015, when large amounts of money came into the market, are valuations still reasonable in sectors that play these themes? Where do you find some froth and which segments continue to offer value, within these two themes?
Naren: The consumption theme has been going on from 2008. While the rural consumption has slowed down, urban consumption hasn't. In fact, in the recent past, urban consumption has done well. But we cannot have an economy, which has not built its infrastructure or productive capacity and is only seeing consumption booms.
We need to have a cyclical revival, only then a sustainable boom over the long run is likely. Today, a consumption boom is possible because of the falling oil prices. If the oil prices are coming down, it can lead to money moving to consumer's hands. But that does not help the Indian economy over the next five to 10 years. It helps over the next one year. That is why we believe that we have to hope for a cyclical revival in the economy - not only in the consumer-oriented sectors but also in the non-consumer oriented sectors. Currently, we believe cyclical sectors offer value over the next 3-5 years.
WF: In your fixed income outlook, you make a point about unusually large spreads. What has caused this, why do you expect things to change and what implications might this have on product categories within the fixed income space?
Naren: Though RBI has cut rates by 125 bps in 2015, it has not translated into fall in G-sec yields. While the market was discounting some rate cuts before it actually began, the US Fed hike and 7th pay commission recommendations have impacted the sentiments negatively since then. The large spreads and the negative sentiments provide comfortable margin of safety at the current levels. Growth risks developing globally or an accelerated domestic deleveraging can provide additional room for rate cuts and open up larger space for yields to come down.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
The information contained herein is only for the reading/understanding of the registered Advisors/Distributors. All data/information used in the preparation of this material is specific to a time and may or may not be relevant in future post issuance of this material. ICICI Prudential Asset Management Company Limited (the AMC) takes no responsibility of updating any data/information in this material from time to time. The AMC (including its affiliates), ICICI Prudential Mutual Fund (the Fund), ICICI Prudential Trust Limited (the Trust) and any of its officers, directors, personnel and employees, shall not liable for any loss, damage of any nature, including but not limited to direct, indirect, punitive, special, exemplary, consequential, as also any loss of profit in any way arising from the use of this material in any manner. Nothing contained in this document shall be construed to be an investment advise or an assurance of the benefits of investing in the any of the Schemes of the Fund. Sectors/stocks mentioned in the article do not constitute any recommendation and the Fund through its schemes may or may not have any future position in these sectors/stocks. Recipient alone shall be fully responsible for any decision taken on the basis of this document.
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