Investors choose the wrong space to start their investments in equities in a bull market, resulting in negative or poor returns
The US markets are on a high. Domestically, though the Nifty is still closer to its recent high, the broader markets are still weak. Over the past two years, only select stocks even in the Nifty made money for investors. Mid and small-cap stocks have shown stark losses. The S&P BSE mid cap and S&P BSE Small cap indices have lost 6.88 per cent and 16.11 per cent, respectively over the past one year. As the global economy is staring at a slowdown and US interest rates poised to make a U-turn downwards, equity investors in India are worried about their investments in stocks and equity mutual funds. Shyam Sekhar, founder and chief ideator at Chennai-based iThought shared his views on the current situation and how investors should deal with their investments in equities.
For two years, systematic investment plans (SIP) in mutual funds have been recording losses. Are people making a mistake by investing in stocks and equity mutual funds? What has gone wrong?
To start with, investors must understand that stocks do not offer linear returns. If you are investing in equity mutual funds through the SIP route, it does not mean that you will get returns every year. Valuations can remain depressed for a long period of time before they start expanding. We have seen in the past that investors choose the wrong space to start their investments in equities in a bull market. For example, in the year 2017 most SIPs were started in mid and small-cap equity funds. That was a bad choice. To make the situation worse, people did not take SIP in large-cap equity funds. In the last few cycles, SIP failed only in those cases where investors opted to invest in a thematic or sectoral funds. No investors lost money in large cap fund or bluechip fund SIP in the past. The investors fail when they look at one-year trailing returns and pick up thematic funds. Investors tend to overlook that high one-year returns indicate that the scheme may have delivered future returns at that moment of time and the returns in the subsequent years may be ordinary. In negative return years, the SIP will offer negative returns. This is more of a behavioural problem of investors than the SIP issue.
While the GDP projections are rosy, the picture on the ground seems to tell us that the pain in the economy is still there. What are the risks that could hurt the markets more? Which are the risks that investors are not yet factoring in?
Global markets are at a high level and precariously poised. If there is a fall in global markets, then it will impact our markets too. We cannot be insulated from that. So that is one of the primary risks we should not ignore. The second issue we have is the NPA resolution in the banking system in India is on-going. However, the pace is far slower than what was anticipated. We need to increase the speed and this year it should go through, to ensure that the faith in the banking system is not eroded. Otherwise, people will have their doubts about the whole system. The third risk is that of polarised markets, wherein a small set of stocks is going up and valuations there are higher than the rest of the market. We do not know for how long this trend will last. The convergence of the overvalued part and undervalued part of the market should happen, but no one knows when it will happen. And the last risk is that of investors losing their patience and exiting their investments in equity mutual funds. This would lead to an exodus from domestic mutual funds.
Is it wise to continue SIP in equities? What should investors keep in mind while investing at this juncture?
If you want to invest in a mid-cap fund, then you should remain invested in the best managed fund. If you are invested in a poorly managed fund, it is better if you move into a well-managed fund. You can also start a separate SIP in less volatile options such as a large-cap or multi-cap fund. Redeeming your equity investments and taking the money out is not the solution. You have to correct your mistake; you cannot just walk over it. Selling your equity funds and getting into debt or fixed deposit is not the solution. The risk-reward in equity is definitely better than the risk-reward in debt if you take a three to four-year horizon.
I do not see mid and small-cap companies going up in near future. The large-cap space will be the primary beneficiary of the economic recovery. I see that there will be an up-move in large-caps first. Mid-caps should follow them later. Small caps will rally at a much later stage.
Quite a few fund houses have been hawking their mid and small-cap funds in the last few months. Investors are also inquiring about these stocks after the correction last year. Is it wise at this time to increase allocation to small and mid-cap funds?
Valuations will keep correcting in the mid and small-cap space for some more time. The problem most investors are facing is they do not have large-cap funds in their portfolio. The large cap funds or multi-cap funds make the core of an equity portfolio. You cannot place what the things that should be at the bottom at the top and the other way round. Your core SIP must be in a large cap fund. Then you can have multi-cap funds. And then the mid-cap funds come into picture. One should typically have 30 to 40 per cent investments going into large cap funds. And then the rest of the investments follow. Even if you have a very high risk appetite, your investments in the mid-cap space should not exceed 30 per cent to 40 per cent.
Mid cap funds are suitable only for matured investors who understand choppy times, cycles and notional losses. These are absolutely not suitable for beginners. For matured investors who understand the risk, mid cap space offers a fair entry point with a four year time frame. This is not as attractive as it is sounds.
Where will the investors make money over the next decade? Many savvy investors talk of investing in unlisted start-ups, in new technologies and new services. Many of such themes are going retail, as the HNIs are turning away from them. How do you view these investment themes?
Unless you have knowledge of thematic investing or you have been advised well, you should not be going for thematic investing. Small investors are better off investing in simple ways that would help them beat inflation and avoid getting into some of the complicated investment avenues they do not understand.
Economic recovery should ensure that investors benefit. We will see increase in consumption of energy, power and metal. We will see creation of infrastructure and further increase in bank credit. We will see top down recovery. And the best way to benefit from the impending economic recovery will be to invest in large cap funds and focussed funds. Large-cap shares are quoting in the lower end of the price to earning band, excluding private sector banks and some large cap names. Large caps should be in a position to handle volatility better. Investors should be prepared for more volatility and make use of the volatility to their advantage by investing at this stage.
Experts always say invest in equities for the long term. But what is long-term? Has this ‘long term’ gone up in the past few years because of the stock market volatility?
Long-term is a variable term. If you are somewhere close to market bottom, from there you can say it is five to six years. It depends on where you are in the cycle. There is no one number to it. Today, we should expect high returns only over five years. But in 2014, long-term was two to three years. Because, at that time, the previous government had done a lot of heavy lifting. However, at this moment, a lot of things need to be fixed.
What is your view on gold?Whenever the US dollar goes into crisis, gold prices go up. Central banks across the world are increasing their exposure to gold. Gold mining is not increasing at the same time. The demand is going up and there is no matching supply. That makes a case for investing in gold. One should have around 10 per cent in gold. Gold ETFs, sovereign gold bonds and global gold mining funds can be tapped into for investing in gold.