Too much trading leads to mistakes...!!!

In volatile markets, too much trading leads to mistakes Santosh Kamath of Franklin Templeton Investments India talks about the debt market opportunity Lisa Pallavi Barbora 

First Published: Mon, Sep 01 2014. 05 51 PM IST

Santosh Kamath, managing director, local asset management, fixed income, Franklin Templeton Investments India, is unperturbed by the near-term volatility in yields and prefers to remain invested to see a view play out over a period of time. We caught up with him to talk about the debt market opportunity and the challenges that fund managers face. He is not too enthused about frequent trading in bonds. Investing in corporate bonds, he says, requires a lot of in-depth research by the fund management team which can help investors understand the credit risk better. 

Over the last year or so, bond yields have been volatile. Did you have to change your strategy accordingly? We don’t believe in too much trading and churning. When a market is too volatile, it may look easy to make returns by navigating the volatility through buying and selling; but you may end up making more mistakes. For example, last July, we were very negative on the currency. We didn’t know that it would go to the levels of Rs.68 per dollar. Nevertheless, we were sitting on low maturity (in our funds), and that stayed for a long time, till the benchmark yield went up to levels of 8.60-8.70%. We don’t think that strategy needs to be changed just because markets are volatile. We need to take a medium- to long-term view. As variables such as inflation, crude prices and fiscal deficit are turning positive now, we are long on bonds and will remain so for some time. We don’t want to move too much in the interim. Which parts of the market have opportunity today? We have to look at the yield basket. Clearly, the yield on corporate bonds is likely to be better than on government bonds. Depending on how much the spread is, it becomes more or less attractive. 

Typically, the “normal” level should be 70-80 basis points between an AA (rated) bond and a government bond. If the spread increases to 130-140 bps, it’s more attractive to own corporate bonds. (One basis point is one-hundredth of a percentage point.) This will happen when markets are volatile, since liquidity for corporate bonds is not high. When markets go through a volatile phase, spreads tend to widen. Secondly, during times of fear around economic growth and corporate earnings, the spreads can widen. Lastly, when there is selling by, say, mutual funds, even if everything is normal, the spreads can go up. At present, both corporate bonds and government securities (G-secs) are looking attractive. Till some time back, corporate bonds were looking much more attractive as spreads were high. But now that G-sec yield has moved up, the spread has narrowed, balancing both segments. What are the challenges of managing a portfolio that is predominantly focused on corporate bonds? The market itself is big. The entire credit space in the banking industry will be about Rs.50-60 lakh crore. 

Unfortunately, liquidity in the corporate bond space is not good. Hence, any negativity tends to impact yields sharply. So, you can run a fund in this space only if you get enough retail investors; with corporate investors you should be cautious playing this theme as they can be volatile. Credit risk can also have an impact. When the economy is doing better and the equity markets are doing well, companies are able to raise funds easily. When things are not good, even if companies have good assets, they would find it difficult to get good buyers. A year ago, the credit risk was high. But now it’s come down. The two big risks are liquidity and credit. Liquidity risk can be handled by encouraging more retail money in the fund, and credit risk by ensuring you lend to good quality companies. 

The good part is that most ratings typically move with a lag—credit rating normally goes up six to nine months after a company starts doing well. If you are an active investor and understand that a company’s fundamentals are going to change, you can actually lock in a higher yield. Over time, when the rating goes up, you can benefit. (But) it requires a lot of research and meeting company managements to identify good credit. When you talk to distributors and investors, how do you decide which product is suitable? There are two ways to tranche all debt schemes, on interest rate risk and credit risk. Interest rate risk means you have short, medium and long maturity. If you can take volatility and stay invested for long, you can look at long maturity products; else, stick to short and medium maturity funds. So the first question the investor has to answer is how long are you willing to wait and are you okay with the volatility. The second question is, whether you want a very high credit, AAA kind of portfolio, or if you are okay with AA exposure, too.

All our funds are mapped like this, and the investor can take her pick. Investors are beginning to understand the difference between benchmark yield and corporate bond yields. Over the past year, performance has been quite varied across categories, which has shown them that different funds can behave differently. When managing a large corpus, how do you personally bring discipline to your everyday life? It really depends on the person. However, a lot also depends on the organization you work for. If the organization believes in long-term fund management, then it is likely to give its portfolio managers extra time to implement their strategy. If the organization understands what you are trying to do, then life becomes easier. Some may want performance every month or every three months, then obviously things become harder to manage.

As a company, we understand investments and their long-term nature. For many asset management companies, what matters is the mad rush to increase assets under management (AUM). If the entire objective is to be the No.1 or No.2 in terms of AUM, the behaviour expected from the sales and the investment teams will be very different. So, the way an organization thinks can have a big impact on employees. First Published: Mon, Sep 01 2014. 05 51 PM IST

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