CEO Speak 3rd April 2014
In next few years, Nifty will be Sensex!
Aashish Somaiyaa, CEO, Motilal Oswal AMC
 

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Motilal Oswal has launched its MultiCap 35 fund, which completes its range of open ended actively managed equity funds. Aashish discusses the fund and also dwells on a vital aspect : how do you get retail investors to buy into the equity story now, before its too late? PE multiples and market jargon are often lost on retail investors - unless you find a way to capture their attention first. It is here that Aashish gives us a simple and direct one liner which can do this job for you : In the next few years, Nifty will be Sensex! Read on as he explains the logic of this assertion, and decide how you want to use it in your client communication. Also check out the link to Raamdeo Agarwal's message to all MF distributors, where he asks a key question : big or unique - what should matter more?

WF : You have a Focused 25 Fund and a MidCap 30 Fund. How will your new MultiCap 35 be different from your existing products?

Aashish : Dear Vijay, through Wealth Forum at the outset I would like to thank my IFA friends for their gracious welcome and support for us since the time we started launching open ended equity funds. Since our first fund launch MOSt Focused 25 in Apr-May 2013, we have collected ~ Rs. 183 crores between MOSt Focused 25 and MOSt Focused MidCap 30. Off the Rs 183 cr, approximately Rs 50 crs have been invested through proprietary resources but the rest of the money is absolutely retail in nature with literally no participation from HNI clients or from banks and wealth managements firms as distributors. There has been genuine retail participation in the schemes mainly only through our IFA friends whether they may have done it directly or through any of the national distribution platforms.

Given that we have only one investment philosophy, it is logically only possible to have large cap, a midcap and at best a small cap or multicap fund. With one philosophy, the agenda becomes very clear. Our business plan has only envisaged 3 open ended equity funds and we will be scaling them up to respectable size over a period of time. Hence, the launch of MOSt Focused MultiCap 35 is completion of our range.

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The key difference of MOSt Focused Multicap 35 will be the flexibility in selecting stocks from across market capitalization categories.

The fund shall be agnostic to sector and market capitalization categories while selecting stocks for investment, with the flexibility to be highly concentrated in its allocation in a particular category.

WF : Given the flexible mandate of MultiCap 35, would you say that this fund is a better fit as a core long term holding than your other two products?

Aashish : Since the fund can have substantial allocation to non-Large-cap stocks, which are of a higher risk category, it would be more suitable for investors who are not too wary of such risks.

Also, some investors will like to have better control on their relative allocation to large and mid-cap sectors, whereas others will be more keen to leave the allocation decision to the fund manager. The Multicap fund would be more suited to this second category of investors. But yes, I agree that this is a better fit for a core long term holding as can be seen from the chart below the product will be able to cover alternating performance cycles of mid and large cap stocks - this alternating of performance cycles is natural to the equity market and this fund aims to capture the same.

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WF : You have made a very interesting observation on how profit pools have shifted over the years. Looking ahead, what are the key trends you foresee - ie. Where do you see profit pools becoming larger and which pools are likely to stagnate or shrink over the next 5-10 years?

Aashish : It is very important to be invested in a business with a growing profit pool so that apart from quality of company and its products, there are tailwinds to the business. Some of the sectors which are integral part of the global profit pool, with some compelling India-specific economic moats are likely to see expansion in their profit pools. Consumption based sectors will continue to see structural growth in their profit pools.

With commodity prices cooling off globally, pure commodity sellers will see relatively less growth in their profit pools. Some sub-sectors which are seeing value migrating away from them will also see relative declines in their profit pool- an example being PSU banks.

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WF : In your experience, what are the drivers that lead to rotation in market leadership between large caps and mid caps? How are we poised now - for the next 12 -18 months, in terms of likely leadership?

Aashish : Since mid-caps tend to require higher external funding for growth capital, they benefit disproportionately from reduction in interest rates in the system. We await sustained reduction in rates, post which market leadership should see a shift.

Large cap companies are also more predominant in certain sectors with structurally large profit pools like banking and Information technology. The outlook for these sectors also determines relative performance.

We should see a churn in leadership in favor of mid-caps in the coming year or two driven by the interest rate cycle and a improving growth environment.

WF : Will your MultiCap 35 fund allocate dynamically between large caps and mid caps? Is there a minimum holding in each segment that is mandated at all times?

Aashish : The approach to picking stocks will be as per our QGLP philosophy and process- we will identify high, quality, high growth stocks using a bottom-up approach. Irrespective of large or midcap the underlying philosophy is unchanged. The portfolio thus constructed could switch from being concentrated in large-caps to mid-caps (or vice-versa) and would be reflective of the relative attractiveness of large-caps vs. mid-caps at that point of time.

WF : Mr. Raamdeo Agarwal has been quite vocal with his view that he sees a large secular bull market ahead in the next 3-5 years. What do you see as the key driver of this bull market? Is it going to be consumption, infrastructure, exports or something else?

Aashish : Over the next few years, I can tell you in a different manner that one can expect Nifty to become Sensex. Favorable Demographics remain the underlying driver of growth for India. While Consumption has contributed disproportionately to GDP growth in India in the last 6 years, we believe a more focused leadership at the state and central levels will be critical to remove policy road-blocks and help drive investment-led growth. Favorable policy environment should also help exports pick up steam. The economic situation is in a turn around mode and likely political consolidation happening at the same time should result in a huge upmove in equity markets.

But these are things that our advisor friends might find difficult to explain to investors. Hence I am going to share a slightly long but 2 logical calculations on why Nifty should become Sensex in next few years. IFA friends can use these basics to explain to clients on why they must be in equity. If you understand this calculation, I don't see how you will not be able to get clients into equity for the next 10 years!!!

EXAMPLE 1

GDP today = approx 110 lac crs

GDP growth rate at conservative estimates like last 5 years = 6% real + 7% inflation = 13% nominal growth

GDP after 10 years = 373 lac crs (feel free to alter your assumptions on real, inflation and hence nominal growth and change the GDP number over 10 years)

Last 10 years range of Corporate Profits / GDP ratio = 2.7% to 6%

Current ratio = 4%. Corporate Profits = 4.4 lac crs

Long Term average PE ratio = 16 times

Current Market Cap ~ = 16 times * 4.4 lac crs = 70 lac crs (which is indeed close to current market cap)

10 years hence assuming corporate profit to GDP remains unchanged = 4% = corporate profits = 15 lac crs

Assume PE also remains as per long term average of 16 times, market cap = 239 lac crs

With market cap at 70 lac crs today Nifty = 6500. So if market cap goes to 239 lac crs, what will Nifty be???? = 22064!!!!!!!!!

You now need to calculate the Nifty if the following extremes are tested in the market which are always tested depending on whether we are in bull or bear market

1) What if GDP growth is 9% real GDP growth instead of 6% GDP growth?

2) What if corporate profits to GDP ratio is 6% instead of 4%?

3) What is market PE is 24 times as in past peak instead of current 16 times average?

You will find that Nifty will be = to today's Sensex in worst case. In the best case???

EXAMPLE 2

There is an alternate logic to this as well. In the peak of 2008 the GDP was Rs 45 lac crs and the market cap of India was Rs 75 lac crs. Today the GDP is 110 lac crs but market is still 75 lac crs.

Historically the range of market cap to GDP ratio has been between 0.5 to 1.75 times.

Over the next 5 years at say 13% nominal growth rate take above the GDP should be Rs 202 lac crs. In this period if the market cap to GDP ratio is 0.5 you will get 6% return on equity, if market cap to GDP ratio is 1 time you will get 22% return on equity and if you are in an equity party where market cap to GDP gets to its peak of 1.75 times, you will get 36.5% return on your equity investment.

Should an investor be in any asset class other than equity? And what should be one's % allocation to equity? What is it now?

Big or unique : what should matter more?

Click Here to access Raamdeo Agarwal's message to all MF distributors



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