Navigating market peak: Banks seem attractive, valuations high in some pockets, says Anil Ghelani of DSP Mutual Fund

The banking sector appears relatively attractive and while there is growth and a positive outlook on corporate earnings, the valuations do appear high in certain sectors and certain segments of the market, said Anil Ghelani, CFA, Head – Passive Investments and product, DSP Mutual Fund.

In an interview with Livemint, Ghelani said that the market’s focus would now be mainly on corporate earnings and the relative valuation of the companies. He also discussed the importance of portfolio diversification and shared his insights on mutual fund investment strategies amid markets scaling record high and peak interest rate scenario.

Q. Passive funds have gained significant traction recently, with increasing market share and AUM. What key factors are attracting investors to passive funds?

A. Often, the underperformance of active fund managers is given as a reason for attracting investors to Passive Funds. Yes, while that might be true to some extent, I believe the other key driver is simplicity. In India, we have a huge scope of growth for the mutual fund industry, both in terms of assets under management (AUM) and the number of people investing.

This is where passive funds can assist in a big way to increase penetration to new investors who have yet to start their investing journey. This is because passive funds have relatively lower costs and are simpler, giving investors a clear understanding of their risk and return outcomes.

Also Read: Why the mutual fund industry is betting on duration funds

Q. As we approach the peak of the high-interest rate cycle, what is your outlook on the fixed-income space amid discussions of potential interest rate cuts?

A. While we are seeing yields that could be considered a “peak” of the high interest rate cycle, it is not yet certain that interest rate cuts will start immediately. Since December 2023, the US Fed has moved to a very clear dovish outlook for 2024. However, with the difficult balance between interest rates, inflation, and growth of the economy, the likely rate cuts have not yet started – in the US and in India.

Hence, while the spotlight has been turned on for investments in the fixed-income space, my suggestion would be to invest with a slightly longer time horizon and patience to get returns. You may consider to start investing in longer-duration fixed-income securities or mutual funds, which will stand to benefit more in a falling interest rate scenario, but with the expectation that it will be gradual and possibly start only towards the end of 2024.

Q. Considering the current market conditions, which investment strategy— active or passive — do you believe is more advantageous?

A. I strongly believe that in the current market conditions, active managers will get great opportunities to outperform. However, it would be extremely difficult to identify consistent outperformers. Hence, it would be prudent to have some index funds or ETFs as a complementary strategy to help balance out the performance as well as reduce the overall cost over the long term. Index Funds and ETFs have gradually started finding a place in everybody’s portfolio, whether it is retail investors, large family offices, or even large institutional investors.

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Q. Diversification through commodity ETFs has become increasingly important to investors. What is your perspective on this strategy?

A. Using commodity ETFs to get exposure to gold and silver can help you earn a higher real rate of return and also get diversification due to the low correlation with equities and bonds. While selecting a cricket team for the World Cup, you will not choose 11 good batsmen, but the idea would be to include players with different skill sets. Similarly, if all asset classes in your portfolio show a high positive correlation, it could be difficult to generate good risk-adjusted returns, especially in the volatile or downward phases of the markets. By including commodities as an asset class in your portfolio, you may diversify it and design a well-diversified long-term portfolio.

Q. Which sectors do you anticipate will perform well in the near future, and which sectors might underperform?

A. Considering the recent rally in the broader markets, certain sectors and segments of the market do appear at a very high level relative to their earnings growth, which could result in a relative underperformance coming up. The banking sector appears relatively attractive as it has been underperforming despite good fundamentals and strong balance sheets. We could also see good potential in consumer discretionary companies, including auto and auto ancillary companies.

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Another interesting area is the IT sector, considering it as a contra bet. If we do a broad global comparison, many companies appear financially healthier, relatively cheaper, and attractive compared to global IT peers. I believe some stocks may have a little bit of downside, but on a broader level, it would be a good sector to bet on a turnaround in the medium to long term.

Q. With benchmark indices nearing record highs, what is your overall market outlook? Should investors exercise caution?

A. I find it useful to look at broad equity markets with the CoFE framework, where Co stands for corporate earnings, F for flows, and E for event risks. With the election results related uncertainty behind us, the focus would be mainly on corporate earnings and the relative valuation of the companies. We have seen strong flows in the markets – while domestic inflows continue, and since the last few weeks, even foreign flows have turned positive. While we can say that there is growth and a positive outlook on corporate earnings, the valuations do appear high in certain sectors and certain segments of the market.

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As sceptical analysts, we should always try to keep an eye on red flags whenever markets move sharply. In such scenarios, you could consider dynamic asset allocation or multi-asset funds, which keep taking suitable exposure across various asset classes, including fixed income, equity and commodities.

Q. Given the present market dynamics, should investors consider adjusting their mutual fund portfolios?

A. When we see markets at highs, or we have certain big events like Budget or unknown scenarios like general elections done with, there is often an urge to change your investment view. It should not trigger any structural changes to your mutual fund portfolio and asset allocation. However, in my view, such times are always a good excuse to set up a periodic meeting review meeting with your trusted financial advisor, and ensure your investments continue to be aligned with your plans linked to your life goals.

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Q. What are your expectations from the upcoming Union Budget?

A. I do not expect any major structural changes in this Budget as the Interim Budget has already been put in place, with a very good plan balanced on a pillar of three “Cs” - Consumption and Capex, with Consolidation. The Consolidation with a fiscal deficit in a prudent glide down is after giving a push for a higher Capex of ₹11.11 lakh crore for infrastructure. This will positively impact related economic growth and job creation, leading to indirect benefits that would be more sustainable.

While such sustainable growth will lead to higher consumption, to ensure a specific boost to consumption, many measures are focused on the rural economy, leading to a direct increase in rural consumer demand. So, I believe rather than trying to make any big changes, the focus would be on simply executing on the interim budget.

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Disclaimer: The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before making any investment decisions.