Short-term interest rates are still pretty high: ICICI Pru

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The bulls have taken full control of the D-street in 2012 while investors and experts are still hoping for more. There is some more good news as S Naren, CIO, ICICI Prudential feels that valuations are still reasonable.

In an interview to CNBC-TV18 he said, "There has been net redemption of about 400 crore in equity mutual funds even in February. So far we have not seen any net inflows. Of course we could have people investing but on net basis we have seen outflows although small."

The Sensex is nearly up 19% alone this year. Foreign investors have contributed a lot to the upmove as they bought about USD 4.4 billion so far this year, after pulling our more than USD 500 million in 2011.

Meanwhile, Naren also pointed out short-term interest rates are still quite high. "Investors have been behaving in a very disciplined manner in India. All the way from 2008 whenever market corrects they have invested and when it rallied significantly they have redeemed, so they are making money in equity markets which is very good for the long-term."

Below is an edited transcript of his interview with Udayan Mukherjee and Mitali Mukherjee. Also watch the accompanying video.

Q: Have you seen any redemption, or conversely have people participated with any fresh inflows that you could see in January and February?

A: The January figures are out and there has been net redemption of about Rs 400 crore in equity mutual funds. Even in February so far we have not seen any net inflows. Of course we could have people investing, but on net basis we have seen outflows although small, so that has been the situation since January.

But investors have been behaving in a disciplined manner in India all the way from 2008. Whenever the market corrected they have invested and when the market rallied significantly they have redeemed, so they are making money in equity markets which is very good for the long-term.

Q: How have you approached it as a fund manager? Have you been selling to the extent of the redemption or have you created any cash buffers as a fund house after the sharp 20% rally that we have seen?

A: We have funds like Dynamic Plan and Volatility Advantage Plan where in we invest as the market falls and sell as the market goes up. For example on December 2010 it had a cash level of 35% in the Dynamic Plan, in December 2011 we had 7% and those kind of funds we have been selling at this point of time. But in other funds we don't take any big cash calls as part of our investment policy.

Q: SEBI data from January seems to suggest closures for a lot of retail investors on pure equity schemes, on equity linked savings schemes. Is it just redemption with a view towards caution or has retail seen this as an opportunity to get out of some of their positions in the market?

A: I think it's getting out of some of the positions. I think short-term interest rates are still pretty high, so you have a situation where if you take out the money and invest it in fixed income you get good returns.

Generally people have had a negative view on equities and equities are a very under invested asset class. You were talking about valuation, which is even today at least 3/4th of the small and midcaps are cheap and at least 50% of the largecaps are cheap. The point was what happened in 2011 was many of the defensive sectors had absolutely very high valuations. It is those stocks which have not been participating and those stocks are the dogs in this market and the other stocks were very big undervaluation.

If you take a sector like metals today you have a situation where even today many of the metal stocks are trading below book and that is not something which we have seen after 2003 except for few months in 2008-09. So I don't think valuations are very expensive. The valuations are still reasonable the problem is at the end of the day we have economic issues like today with crude oil at USD 120 per barrel, the economic issues are much bigger than what it was when crude oil at USD 100 per bbl. You have still a problem of fiscal deficits and current account deficits. I think the problem is not on the valuation side, the problem is on the economic side.

Q: On the fundamentals, are you convinced that they will change in the next quarter or two or are you feeling cautious post the recent rally in stock prices?

A: Obviously it makes sense to be cautious at this point of time when crude oil touches USD 120 per bbl, and our belief is that the March-April period can be accompanied by a fair amount of policy action. During that period the should government manage to increase taxation or cut expenditure and do a credible fiscal consolidation exercise by increasing diesel very significantly.

My colleague who covers oil within the company was telling me that there is an under recovery of oil in diesel of Rs 14.5 per litre today. That is a kind of under recovery which is impossible to continue for too long. So if you see a substantial improvement in the way subsidies are handled in the next three months, the valuations won't look excessive because we are in a situation where Indian economy is still the better growth stories in the world.

The problems in Europe are certainly like band aid solutions and therefore what we require is a credible fiscal consolidation exercise. Once a credible fiscal consolidation exercise happens, Reserve Bank in the last policy statement had promised substantial monetary easing and if a combination of a credible fiscal consolidation exercise and substantial monetary easing happen India's valuation won't look expensive.