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INDIA TODAY - The most widely read newsweekly in South Asia.
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INDIA TODAY - The most widely read newsweekly in South Asia.
     CURRENT ISSUE DECEMBER 25, 2006
 
   SMART MONEY: MUTUAL FUNDS
 

Life After 14k Surviving The Ride

As markets turn volatile, the retail investor's dilemma has never been worse. Even if you are a firm believer in the India story, it's time to invest smartly in equities that can protect you from the downside.

 
  PICTURE SPEAK

ANUP MAHESHWARI DSP MERRILL LYNCH FUND MANAGERS

"Growth can't last forever. A time will come when investors will have to take a call on equities."

Even as the Sensex romances the magical 14,000-point mark, Rahul Shah's investment adviser is asking him to cut his exposure to equities and increase the low-risk debt instruments in his portfolio. Till the markets touched 13,000 mark, Shah's investment adviser was unilaterally bullish on the future of Indian equities, but as the benchmark index kept rising, like many other investment gurus, his adviser wanted him to rebalance his portfolio, keeping the law of diminishing returns in mind.

Just as trekking beyond 5,000-6,500 m requires advanced mountaineering skills, investments in the stockmarket at the current level call for sophisticated tools and good experience. While there may be very few doubts on India's long-term growth potential, the crests and troughs are likely to be much more accentuated, with higher inflows chasing a limited universe of stocks, thereby driving share prices higher than normal. Explains Anup Maheshwari, head of equities at DSP Merrill Lynch Fund Managers, "Investors today are paying for growth which can't last forever, there will be a time when investors will have to take a call on whether equities make sense."

So is this the right time to invest in equity mutual funds? Yes, say investment gurus, but the rules have become more complex. When the bull run started in 2004, the Indian market was severely undervalued and making money in equities was a no-brainer. But as market valuations have matured, stock-picking for fund managers hasn't got any simpler. This year, foreign institutions have invested $8.5 billion (Rs 38,000 crore) in Indian equities, compared to the $10 billion (Rs 45,000 crore) in 2005. With a weakening dollar, outlays for emerging markets like India will only increase. Unfortunately, dollar inflows make markets sensitive to any reversal of liquidity, thereby increasing the volatility in the market. Since India is a growing economy, market levels may be meaningless, but Sukumar Rajah, CIO of Franklin Templeton Asset Management, says, "Valuations look expensive when seen against other emerging markets, but one should also keep in mind the fact that growth prospects are strong. Any change in global liquidity scenario and systemic risks could result in short-term volatility, but we believe that medium- to long-term potential remains strong."

BEAT THE MARKET
Invest systematically on a weekly basis to combat volatility.

Opt for equity funds with a minimum track record of seven years.

Reduce allocation to equity this year.

Portfolio must have funds that offer capital protection.

Increase investments in debt and alternate asset classes like art and commodities.

Compared to the past, there is an array of products in the market today for investors, depending on their risk appetite. In order to give new investors a taste of equity, sans the risk of losing money, the Securities and Exchange Board of India recently cleared the way for launch of capital-protected funds. A capital protection product essentially seeks to protect the principal amount by putting up to 80 per cent of the invested corpus into fixed-term debt instruments, with the remaining 20 per cent going into equity.

For sophisticated investors, a capital-protected fund may not be the right option as it is more of an alternative to traditional fixed income avenues. "Such products are structured to protect the downside, but at the same time, investors never get the full benefit of the equity upside," explains Rajah of Franklin, which recently closed its new fund that offered capital protection. Hence, capital-protected products are ideal for investors who are not comfortable with the volatility in the equity markets and are conservative in nature.

  PICTURE SPEAK

HIMANSHU KOHLI CLIENT ASSOCIATES

"After the 1,000-point fall, the market is over valued by 12 per cent. But the fall has come at a right time."

While safe instruments like Franklin Templeton Capital Safety Fund may be one of the options for investors to beat volatility, investment advisers like Abhay Aima, head of private banking and equities at HDFC Bank, has devised an innovative method to beat the daily volatility by averaging out the market. Forget the monthly systematic investment plan (sip), invest every week if you have to beat the wild gyrations of a few hundred points daily. For those who believe in equities as an asset class, it is no longer enough to make systematic monthly investments in equity mutual funds. Aima has been advising his high networth investors to park money in a liquid fund and make systematic transfers into diversified equity funds on a weekly basis, so as to get a better average cost of investment. The reason for this is that the markets have seen sharp rises and falls in a month, which prevents the monthly sip investor from benefiting from such pressures.

Apart from averaging out in the market, Aima is strongly advising his investors to rebalance their portfolios at this point of time so that they can go back to the original asset allocation, depending on their risk appetite. If an investor has increased his allocation to equities over the past two years, it is perhaps time to reign in that greed as the tide can turn anytime. Explains Himanshu Kohli, partner founder of Client Associates, a wealth management firm, "The market is overvalued by 12 per cent after the 1,000 point fall on December 12 and we are rebalancing portfolios by reducing equity exposure. We recommend structured products which protect investors from the fluctuations in the market." The new mantra is to put less money when markets are soaring and put more if there is a dip.

Another golden rule is to look at funds with a long track record. In choppy market conditions, it is critical to have a fund manager who has the experience of diverse market conditions. Gaurav Mashruwala, a financial planner, says he only recommends mutual funds with a track record of at least seven to 10 years. "I like to see how a fund manager has fared through tough market conditions like a tech bust before recommending a fund, which is why I omit funds with less than a seven-year track record." Performance of Franklin Templeton's Blue Chip Fund shows that experience and strategy help achieve consistent returns. Rajah has been with the fund house for 12 years now and managed the Blue Chip Fund, which is one of the most consistent funds in terms of returns.

Fund houses which do not have the luxury of track record and experience on their side are choosing statistical models to reduce risks associated with subjective calls taken by fund managers. They are adopting a mathematical model called the Constant Proportion Portfolio Insurance (CPPI) as a stated investment strategy. The primary purpose of CPPI products or processes is to protect a given asset or funding level. CPPI employs mathematical models to adjust the fund's asset allocation on a daily basis. It is an algorithm to allocate portfolio between equity and fixed income in a manner that increases exposure to equity as the portfolio value increases or decreases exposure to equity as portfolio value falls.

In India, Prudential ICICI Portfolio Management Services and ABN Amro Portfolio Management are currently offering such products. Prudential ICICI Asset Management Company (AMC), under its Portfolio Management Services launched for the first time in India an investment product based on an internationally well established investment scheme called the Principal Protected Portfolio. The product offers the best of both worlds-low risk and high potential returns.

Under this scheme, the portfolio management firm will offer an equity portfolio with 100 per cent principal protection, which is ideal for investors in current turbulent markets and at higher market levels. It will provide complete liquidity subject to applicable exit loads. According to wealth management firms, which are selling this product, the risk gap has been guaranteed by Deutsche Bank, London. Explains Kohli of Client Associates, "We are recommending alternative asset classes like commodities or structured products based on capital guarantee."

For those who cannot afford to employ a portfolio management services firm, ING Vysya has launched the Dynamic Multi-Manager Optimix Fund, which is set to follow a rigorous investment philosophy. This fund will rebalance portfolio every 15 days, says Kavita Hurry, CEO of ING Vysya Mutual Fund. So should equities fall, the model will trigger a sale of equities and move the proceeds into defensive assets to protect against further falls. As equities outperform, and the asset or funding level improves, there is a lower requirement for defensive assets and so these are sold and the proceeds reinvested into equities. A 5 per cent change in the market will automatically trigger rebalancing, irrespective of the fund manager's view. "We have removed the discretion of fund managers because asset allocation is critical," adds Hurry.

Fund managers are known to go wrong in their calls and at the current level, investors cannot afford to lose money. While there is a safety net of capital protection for the risk-averse retail investor, the portfolio management firms are offering highly sophisticated structured financial products, which are designed to meet specific investor-needs by incorporating special, non-standard features. A structured product typically offers capital protection, exposure to overseas equities, commodity hedge arbitrage, and "share index" style investment.

It's evident that traditional approach of investing and forgetting about it is not likely to work. Not only is it critical to invest systematically, it is also advisable to balance and alter your asset allocation and lower the risk component. In this market, it is safe to follow JM Keynes's advice: "When circumstances change, I change my view."

 

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INDIA TODAY - The most widely read newsweekly in South Asia.
CURRENT ISSUE
DECEMBER 25, 2006
 IN THIS ISSUE
COVER STORY

Sensational. Shocking. Tabloid. Exclusive. Tamasha News

OTHER STORIES
 

Getting Personal

Hanging in the Middle

Why We Should Go Ahead

Against National Interest

Ending the Isolation

Internal Injury

Withering Away

Investment Speedbreaker

Deep Waters

Southern Express

For Home, A Fistful Of Dollars

Life After 14k Surviving The Ride

Dancing On Safe Ground

The Grassland's Great Hope

Outclassed, Outrun

Divisional Managers

Sales Pitch

Mate Value

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