Our market is currently compartmentalised in four parts. Super large-caps are trading above their historical average. Large-caps are trading around their historical average.
In an exclusive interview with FE, Nilesh Shah, MD at Kotak Mahindra Asset Management Company, says there is a trust deficit between policy makers and the markets and it is important to bridge this deficit for the markets to recover. Excerpts.
How big is the NBFC crisis? The RBI governor says it is not over yet. Is a contagion possible or rather what could lead to a contagion?
The NBFC crisis is applicable to a few NBFCs, which were exposed to real estate sector or where there are issues related to risk management practices. It is not a sectoral crisis. NBFCs whose liability franchise is good and whose risk management practices are appropriate are running their business as usual. The RBI governor did mention post credit policy that no major NBFC will be allowed to fail. In the credit policy as well as in Budget there were multiple announcements to increase fund flow to the sector. NBFC liquidity issue will come down significantly when all those measures will be operational. We don’t think NBFC crisis is likely to become contagion as liquidity in banking system has turned positive. Repo rates have been cut by 110 bps in last one year. There is an expectation that some package might come for real estate sector and overall economy.
As several equity schemes have given negative returns, when can we expect an improvement in this regard?
Many of equity funds, PMS and SIPs in such equity funds have given negative returns over the last few years. While this is contained mainly to funds with small- and mid-cap exposure, it is clear that investors’ expectations haven’t been met. There are newspaper reports that some PMS redemptions have happened with stocks rather than in cash as selling shares would have resulted in more price correction. It shows the current situation in market where buying interest have disappeared.
Our market is currently compartmentalised in four parts. Super large-caps are trading above their historical average. Large-caps are trading around their historical average. Mid-caps are trading below their historical average. Small-caps are trading way below their historical average. The carnage of small- and mid-caps isn’t reflected in broad indices. Funds having exposure to small- and mid-caps have given negative return. However, at Kotak Mutual Fund, most of our funds have outperformed their respective indices and created positive alpha. From a valuation point of view, small- and mid-caps are available at attractive valuations. If the earnings growth picks up on back of corrective steps taken to revive economy, then small- and mid-caps will do well, which will be reflected in the fund performance.
What factors do you think will lead to a recovery in markets?
The markets will go up if earnings recover and there is visibility on earnings growth. For earnings to recover, one needs broad economic recovery. Oil prices have remained subdued despite US-Iran skirmishes. Monsoon rains have become normal after a sharp recovery in July and August. We have to build upon that. The real interest rate burden on India Inc is very high at higher single digits. There is a need to lower real interest rate burden on India Inc from the current levels.
The taxation burden and compliance process is very high for India Inc. Hence, we need to cut multiple levels of taxes to reduce our entrepreneurs’ tax burden. The tax compliance process has to improve in true sense. No growth is possible without appropriate credit. Today banks under the PCA framework and NBFCs impacted by refinancing issues aren’t providing credit. We need to provide adequate growth capital to PCA banks and ensure smooth refinancing for NBFC sector to ensure that credit is available at reasonable rates to our entrepreneurs.
Our trade deficit with China is upwards of $55 billion. This is making our manufacturing weaker, resulting in flight of jobs to China. More importantly we are consuming Chinese products rather than exporting. We need to ensure that dumping by China is reduced and local manufacturing is encouraged. Similar approach is required in sectors like coal mining, education, travel, electronic goods, among others, to encourage local entrepreneurs to ensure that jobs are created in India rather than abroad.
Apart from economy, there is one more important factor for market recovery. There is a trust deficiency between policy makers and market. Levy of LTCG despite STT, FPI surcharge albeit on a small segment of entities incorporated as Trust, and minimum public shareholding norms creating supply pressure, which is more than 3 times capital market mobilisation, are creating the trust deficit. For markets to recover, it is important to bridge the trust deficit. But there is a slowdown in both the economy and in consumption.
The economy has slowed down because of multiple factors. Earlier, we had a very high fiscal deficit; when you run higher fiscal deficit, growth will be higher. Now we have moderate fiscal deficit. Earlier, we had high inflation; when you have high inflation, nominal growth is always higher. When inflation comes down, nominal rates also comes down. Inflation has come down with tight monetary policy. Tight monetary policy also slows down growth. We had high non-performing assets (NPAs) across the banking system, if you have access to easy credit, growth in the near term will be super charged. But someone has to pay the price when it becomes NPA, we paid that price as our NPAs were high and that needed to be provided for. Today we have built the foundation of low inflation, moderate fiscal deficit, transparent disclosure of NPA, better tax compliance, lesser leakages in subsidy payment, among many other things. We have gone through the transition, which is reflection into slowdown. Can it reverse from here — answer is yes. Provide liquidity, lower real rates, remove risk aversion. If all these are done, we will see growth again coming back.
How do you rate the debt markets and interest rates in India?
In a debt market, usually one takes the risk of duration, liquidity and credit. All three will have plusses and minuses. For example, in a Duration Fund, we did see gilt prices coming down by about 8-10% in mid-2013 during taper tantrum. That sharp fall didn’t unnerve investors as much as drop in credit risk funds now-a-days. Please remember there is no free lunch. Risk and Return are two sides of the same coin. Both goes together. Now we have to ensure that risk is managed properly.
There was a time when liquid funds where we used to give daily redemptions used to own 1 year paper also. With the benefit of hindsight, it was an unacceptable risk. Later, regulator came out with regulation, which made liquid funds to restrict their maximum maturity to 90 days. To cut the long story short, we have to ensure that in debt market we manage risk properly.
Our view post RBI policy is that there is room for rates to come down from the current level in a calibrated manner. The spread on corporate debentures is also at a higher level. We think if an investor is comfortable with credit risk than credit opportunity funds provide good entry point. If the investor wants to play Duration than short term funds and dynamic bond funds will be appropriate funds to invest.