Our past experience does suggest that it makes sense to work for recovery of money rather than resorting to panic selling and that’s what we applied in case of Zee in FMPs, said Nilesh Shah, MD, Kotak AMC, in an interview with ETNOW.

Edited excerpts:

There is a nervousness in the market vis-a-vis the Zee issue and what happened to FMP categories. How should one address that?

One, we had done a detailed communication to our investors. We are speaking to them on an individual basis, on a group basis, on telephone calls, on emails, on whatsapp. Majority of investors have understood what we have done. If I can take this in a manner where there were certain feedbacks not from the investors but from non-investors, the first feedback was that you have not returned any money to FMP holders! Well that is not the route which we have taken. We have returned majority of money to the unit holders from FMP portfolio which were liquidable portfolio, which we could sell in the market or which matured and we could repay.

In eight FMPs, we had exposure to ITNL/Essel Group companies. In seven of them, we have returned more than what we had collected in the initial amount. We have tried to take care of the feedback. Please ensure that something is returned to the investors. In seven out of eight cases, more than the principal has been returned to the investors. In one of the cases, a little less than principal — to be precise 0.75% less than the principal — has been returned.

The second feedback was that you should have sold the shares and recovered the money and paid back the investors. Well in that case, we would have done sub-optimal recovery and the experience in the past in mutual fund industry was related to Unitech in global crisis time where working with the management to recover your dues resulted into recovery of money albeit over a period of time. The second experience was Jindal Steel and Power Limited, where majority of mutual funds work with the promoters to restructure or reorganise or refinance the debt and today, majority of them have recovered the money. There was one mutual fund which took a different route of selling the papers. There the notional loss got converted into actual loss. Our past experience does suggest that it makes sense to work for recovery of money rather than resorting to panic selling.

The third suggestion was that we should have marked down our NAV to zero on Essel Group exposure and on ITNL and then whatever is left we should have paid back. Well we have not done that because if I work in that fashion, then there will be increased tax liability to our investors because whatever recovery we will do from Essel Group as well as ITNL as and when that will be paid to investors, will be taxed as a normal income.

We have done partial redemption of units and some units will carry forward the indexation advantage. We are working for our unit holders. We have taken feedback into account and we will do what is appropriate for our unit holders. There is no panic among our investors. They have all appreciated what we have done and one more thing which I would like to again reassure investors about is we regret withholding of the amount but it is necessary at this point of time.

On our more than one lakh crores debt portfolio, the total exposure to high yield paper where we have seen a delay is just 0.378% of the portfolio. There are two kinds of funds in fixed income space — one where we manage interest rate risk and second where we manage credit risk. Where we manage interest rate is almost 90-95% of our portfolios and there we remain invested into AAA rated entities, AA plus rated entities.

If I remember my number correctly, more than 95% of our portfolio is in AA and above rated entities. It is only a small portion of portfolio where we manage credit risks to generate higher return that is where we put high yield securities like loan against shares.

There occasionally a delay could occur but by way of our structuring, by way of our security we are reasonably secured. A delay does not necessarily mean default. We are hopeful that we will work with the promoters in the interest of our unit holders for recovery of our dues.

Why do you think balanced funds have not lived up to their expectations? I do not want to make this as a trend, but balanced funds as a category were sold with a promise that they are the best solution to a volatile market. Somehow the promise has not translated into returns.

Again, the mutual fund industry is a heterogeneous industry. There are experienced mutual fund investors who have invested in balanced funds over last 15-20 years. It is no coincidence that one of the largest funds in the mutual fund industry is a balanced fund. At the same time, not-so-experienced investors have entered into mutual funds. Their experience of volatility, their experience of downturn in the market is limited. Many a times they have invested without the help of the advisor or a distributor. It is also possible that some of them might have been miscommunicated about the features of the product.

What I understand in the balanced fund category is that many a times people got confused between what is the dividend yield versus what is the return of the fund. Please understand that in any equity or debt mutual fund, dividend can be paid out of the profits which are realised and this includes not only the current NAV but also the past NAVs. So if you enter, say at Rs 20 NAV in a fund and the fund declares Rs 5 of dividend, it can come out of your capital as well. It does not mean that dividend is coming out of future profit.

This confusion between the dividend income versus the return of the fund could have resulted into some sort of disappointment on the balanced fund. As mutual fund industry, we have tried to communicate with investors and advisors. With the help of advisors, we have tried to communicate to the end investors that please differentiate between dividend income and the return of the fund. They are two independent things.

What does this mean for the category as a whole for the FMP category? Do you feel investors will start questioning this category?

No, I do not think so. It is a heterogeneous community; there are many people who have seen how we have recovered money in 2008 as well as 2013-14. There are some set of investors who understand when we speak to them. I do not think there is nervousness among the investors as it is there in some of the non-investors.

Just wanted to understand the market texture because so far, it seems that as April came, the March rally was forgone and the market is now going light in consolidation mode into the elections and earnings as well. Has the market already baked in a re-election of the current government?

There are certain data points which are coming from the economy where one could see some sort of subduedness. This is not negative growth but this is below expected growth rate.

In March, there was over 10% drop in automobile sales at the retail level. In case of scooters, for the entire FY2019, there was a negative growth. Some of the data on the consumer staple or consumer durable are also not up to the expectation. This is what is prompting investors to take a balanced view. They want more data points to see whether economic growth will jump over 6.6% and whether company profitability will continue to improve from here onwards.

Company profitability in FY20 will look better over FY18 and FY19 because with NPA provisioning coming down, corporate focussed private banks will be able to report higher profit. Some of the pharma companies will also be able to report higher profit as US generic market pricing settles down. Over the medium term, telecom sector will face lesser competition and there could be recovery in margin there also.

While optical profit growth for FY20 over FY19 and FY18 supports the market, what the market is looking at is a couple of events which will support the earnings recovery in the real sense.

The first most important thing for market is fiscal prudence. The path of fiscal prudence results in lower interest rates and better valuations — both of which are good for market and profitability.

The second thing market is pricing in is rationalisation of real interest rates. Today, EBITDA level margin for India Inc is above average. However, PAT margins are reasonably below historical average. The gap between EBITDA and PAT is depreciation, income tax and interest.

Since major investments have not been done, depreciation could not have shot up; tax rates have actually come down and so effectively the reason why there is above historical average EBITDA margin but below historical average PAT margins is mainly attributable to interest cost.

The rationalisation of real interest rates will result in lower interest costs which is good for profitability. The second thing is related to transmission of credit. Clearly, we have seen credit growth jumping over deposit growth. It shows the unsaturated demand for credit in the India Inc and clearly if there is more credit, there is opportunity for higher growth.

Third, is the transmission of credit post September 18 IL&FS default NBFC sector has been playing on the back foot rather than on the front foot. The PCA PSU banks also have not been extending credit as easily as they were before. Combination of all this has resulted in chocking of transmission of credit in the system.

Finally, the market is looking at some sort of reduction in deficit with China. While we need to import certain critical items from China, there has been also certain non-critical items imported from China that has put pressure on Indian manufacturing Indian companies. If that deficit narrows down to that extent, there will be respite for India Inc.

Essentially, market on one side is looking at optical recovery in earnings in FY20 and on the other at certain factors in terms of the path of fiscal prudence, rationalisation of real interest rates, better transmission of credit, availability of credit, reduction in trade deficit with China etc. These will allow economic growth to accelerate from 6.6% in the third quarter GDP and on top of it, there will be better earnings growth for corporate India.

In the last three years, something or the other has gone wrong — demonetisation, GST, IL&FS crisis. There is an election now, which though has no long-term impact, for three to six months, could stall and push the decision-making process. A little bit of slowdown in decision making can lead to downsizing of earnings.

Over the last decade or so, post 2008 global crisis, we took steps which were necessary at that point of time from a short-term release of pain point of view. During the 2008 global crisis, we had to provide liquidity and fiscal stimulus to economies. Over a period of time, that resulted into building up of NPAs in the banking system.

Our poor tax compliance is comparable to African standards. It has been existing in the country for last so many decades. It was important to remove India’s limitation which has actually restricted our growth. Over last many decades, most of the countries have outperformed India. We have done substantially well in an absolute term. There are more literate people today than they were at the time of Independence. There are less poor people today than they were at the time of independence. We have done well in absolute terms but in relative terms, everyone has left us behind. Japan, Korea, Taiwan, Indonesia, Philippines, Thailand, Sri Lanka, China all these countries are way ahead of us over last many decades and this happened because we had very poor tax compliance culture.

Many people still probably believes that if they pay tax, it will go to the United Kingdom and not to our own government. Our savings allocation has been quite quite poor. We have spent more money in import of gold than what we have received via foreign direct investment.

If you are a patient who wants recovery of healthy and you are giving blood donation, how will your health recover? You can continue to blame the doctors but it is you who is donating blood. You need to receive blood infusion now. Attempts have been All those things have been attempted to be resolved or changed over a period of time.

Demonetisation was necessary to increase your financial savings and improve tax compliance. GST was necessary to improve tax compliance and assure that businessmen who take short-cuts do not succeed but businessmen who follow the law will succeed. Gold bonds were necessary so that people do not invest in gold and instead of money going out of India, stays invested in India. Digitisation and maximum governance, minimum government was necessary so that ease of doing business improves. It is a journey and we have taken a few steps. A few more steps need to be taken but certainly the market today is discounting that we are laying a foundation for a better growth going ahead, as we start tackling our challenges.


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