Fund managers on shaky ground as indices surge
Equity fund managers have less to cheer despite Indian equities staging a sharp rebound since their March lows. Market polarisation, uncertainty created by the pandemic, and the liquidity-driven rally have all made their task more difficult.
Analysts and fund managers seem to have discounted the FY21 earnings entirely, and are betting on stocks based on the projected FY22 and FY23 numbers.
Consensus estimates peg the Nifty’s earnings per share (EPS) growth at 10 per cent and 39 per cent for FY21 and FY22, respectively, according to Credit Suisse Wealth Management, India. Local lockdowns, a surge in Covid19 cases, and limited fiscal support could, however, pose significant downside risks.
“There’s a bit of disconnect between the market and macro reality. The former is driven by excess liquidity, and hopes of economic activity returning to normal along with a Robinhood effect in the form of huge retail participation,” says Navneet Munot, CIO of SBI Mutual Fund.
Getting a handle on earnings estimates will be a big challenge. Price-to-earnings (P/E) multiples for FY21 have become almost irrelevant, given the dislocation of profits expected in several sectors.
“We are getting a better sense of how firms are managing their supply chain, logistics feed, and where the demand is coming from. Consumption in rural India, for instance, has been relatively less affected. A clearer picture of the economy may emerge only in the December quarter,” says Jinesh Gopani, head (equity), Axis Mutual Fund.
Some managers say companies should be assessed on a normalised basis by considering their earnings 2-3 years from now. “Taking FY19 as the base, one could arrive at a normal growth trajectory for a particular sector over the next 3-4 years. Based on that, project the earnings for FY22-23 and value the firm on that basis. Also look at the price-to-book value and see where it is compared to historical averages,” says Mahesh Patil, co- CIO of Aditya Birla Sun Life MF.
Indeed, metrics such as price/book-value, market capto- GDP, and solvency ratios have gained relevance.
Market observers says companies with high debt and/or leverage may not be able to withstand the pressure on profitability and their balance sheet (B/S). Those with a strong B/S, enough liquidity, robust risk management capabilities, focus on innovation, and healthy relationships with stakeholders will emerge winners.
“It’s not m-cap or size of physical assets that will determine resilience but how nimble and agile the management is,” says Munot, adding that the pandemic has necessitated tracking of high frequency data from various agencies.
Feroze Azeez, deputy CEO of Anand Rathi Private Wealth Management, says analysing Altman Z-scores could be a better way to predict impending defaults and bankruptcies, instead of credit ratings.
Another way to gauge resilience is to monitor the historical trend, say 10, 15, or 20 years, to assess how firms have fared during different business cycles, past recessions, political uncertainties, and black swan events, according to Siddhartha Rastogi, COO and head (sales) at Ambit Asset Management.
Historical data, however, may not be relevant for sectors or businesses that will see a new normal.
Taking cash calls won’t be easy. Setting aside 5-10 per cent of cash would be prudent, given the limited upside for markets. Large cash calls could, however, backfire if the liquidity-driven rally continues. Aditya Birla Sun Life MF, for instance, has decreased equity exposure in asset allocation funds to 65 per cent from 75 per cent before the pandemic. Munot says SBI MF does not take large cash calls in equity funds, where the focus continues to be bottom-up stock picking. The fund, however, may take tactical calls to hold more cash in hybrid and asset allocation funds.