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At Cafemutual Confluence 2022, Ashutosh Bhargava, Fund Manager & Head Equity Research, Nippon India Mutual Fund took us through ‘Multidisciplinary rule-based approach to asset allocation’. He shared with us common mistakes that MFDs/RIAs and fund managers can make while deploying funds and useful tips to avoid them.
Let us look at some key highlights of the session from Ashutosh:
Leadership keeps changing. Market is unpredictable and forecasting is impossible. There is hardly any difference in the performance of large cap, mid cap and small cap. Overall, they have given similar returns which is 15% in the long term. However, there are times when large cap outperformed mid and small cap and vice versa.
Currently, most professionals follow two methods to do asset allocation – macro and valuation. Macro is deploying funds based on macro-economic environment of the country like inflation, employment, industry output and so on. But such numbers keep on changing and you can’t make long term projection based on macro.
Another approach is valuation. We look at Price to Earnings (PE) multiples. However, average PE multiple has changed with time. When I joined average PE of market was 12x and now it is close to 18x. Pre covid, it was 17x. How can you use this valuation matrix if it is ever rising with time?
Also, the constituent of index changes over time. Think about cyclical and leveraged oriented sectors like infrastructure and capital goods and less cyclical and more compounding sectors like FMCG. You cannot give same multiples to both. While the composition of index change, many people use market PE to determine the valuation of constituents.
Hence, making asset allocation decision based on valuation can be deceiving. And this is where multidisciplinary approach works. There is always something to learn from each approach. Implement these learnings to create your own model.
Multidisciplinary approach includes all variables like macro, valuation and also technical analysis, which most people do not like.
Another important aspect is interest rate movements. Valuation has to be combined with interest rate scenario. Tomorrow if a bank FD offers 10%, liquidity in equity markets will vanish. Interest rate tells you discount rate of future earnings of corporates and hurdle rate of markets.
Global factors also matter when it comes asset allocation. We are living in integrated markets. While FIIs may come and go, economy and earnings have strong linkages to global demands.
Further, market trend is your friend. It has worked over the last 40 years.
Overall, all these approaches can improve your odds to ride the volatility and make money.
