1. Investors must opt for asset allocation to ride volatility

Investors must opt for asset allocation to ride volatility

The current market conditions of a slow and gradual recovery and a likely fall in interest rates renders balanced funds as suitable investment vehicle.

By: | Updated: November 25, 2016 11:17 AM

The current market conditions of a slow and gradual recovery and a likely fall in interest rates renders balanced funds as suitable investment vehicle. (Express Photo)


Nimesh Shah

What should a good investing strategy be in the present market environment? That’s a question investors have lately been pondering. Market choppiness has increased, and investors have been seeing wild swings in their portfolio values.

But, as Benjamin Graham, the father of value investing has so well said: “Basically, price fluctuations have only one significant meaning for the true investor. They provide him/her with an opportunity to buy wisely when prices fall sharply and to sell wisely when they advance a great deal.”

Sparked off by China’s devaluation of its currency, financial markets across the world went into a tailspin. The Indian markets, not isolated from world events, slid nearly nine per cent from around 8600 (Nifty) in July 2015. In fact, the slide turned steeper on worries that the US Fed would raise interest rates, though this, of course, has not materialised.

Many quality stocks have slipped nearly 15-20 per cent in the present market conditions as Nifty-leveraged positions were being unwound. Many of the stocks that saw a correction were of large-cap companies, where unwinding of derivative positions exacerbated the sell-off.

The good news is that, in all the financial turmoil, valuations have turned relatively attractive. From a forward earnings perspective, the equity markets are trading at around 17 times earnings, compared to 19 times earnings in July 2015. Sure enough, while the valuations are not inexpensive, they are relatively attractive.

In the short run, some cyclical factors are hurting earnings – and it might take a while for the earnings cycle to pick up. The recovery in capital expenditure will take some time. But when that happens, this low point of investment will have proved a good entry point in coming years.

Structurally, the economy is undergoing a change as global deflation has pulled down commodity and food prices. India benefits immensely from this. The savings due to lower oil prices, is reducing pressure on the fiscal front. All this helps shrink inflation, which in turn would see interest rates ease in the coming weeks and months.

The key for investors is to invest almost in both equity and debt in the current market situation. Both asset classes are attractive from valuation perspective. Debt looks particularly interesting from a 1-2 year perspective, while equity investors should look at 3-5 years.

Of funds ideally suited to get the benefit of both worlds are balanced funds, which hold both equity and debt assets. That’s a conservative investment-fund strategy, seeking to make the most of equity and debt investments. In the present market environment (in both India and the world), both these asset classes are good to invest in. Balanced funds hold about 65 per cent of their portfolios in equity, the rest in debt. Hence, investors can aim to capture benefits of both the asset classes through a single investment structure.

Within balanced funds are asset allocation funds or balanced advantage funds which allocate dynamically between equity and debt using valuation yardstick such as price-to-book value. These funds are structured to invest in equities when markets are cheap and book profits when markets are rising, thus minimizing risk and aiming to provide good long term returns: as a result, makes it possible for investors to have an asset allocation plan that is workable and tailor-made for different market conditions.

Investors could also do well to accumulate debt funds from a 12-18 month perspective. Across the spectrum, debt funds are relatively attractive to invest, though longer-tenure funds are a shade better placed in this market.

As interest rates are poised to slide further, longer-duration bond funds could provide reasonable returns in coming months and years. Investors can consider long-term income funds, corporate bond funds, as well as those that invest in government securities – or a blend of all these debt-market instruments.

The key is to hold on to these funds for long term. The conditions in which they could do well hinge on a recovery in earnings and capital expenditure on the equity side, and a notable reduction in interest rates on the debt side. Given the market conditions, a slow and gradual change in conditions is more likely than a rapid recovery, hence, a medium- to long-term outlook.

Nimesh Shah, MD & CEO, ICICI Prudential AMC. The view expressed here are personal.

Get live Stock Prices from BSE and NSE and latest NAV, portfolio of Mutual Funds, calculate your tax by Income Tax Calculator, know market’s Top Gainers, Top Losers & Best Equity Funds. Like us on Facebook and follow us on Twitter.

Go to Top