equity valuations: As sectors rotate, tap funds that catch business cycles early

It sounds innocuous but the name itself reveals the art – or, science – of investing in stocks that are beginning their ascent from troughs.

“The last decade was characterised by easy monetary policy and interest rate cuts which led to lower volatility. This was positive for equities as an asset class. However, the coming decade can be characterised as one where the room for a rate cut is limited, and global equity valuations are elevated,” said Anish Tawakaley, deputy CIO at ICICI Prudential Mutual Fund.

Tawakaley believes this is the time when the markets are likely to have more volatility than ever before. At such times, the optimal strategy is to be nimble as the macro environment may change and it is imperative to invest in schemes which can move between themes swiftly which is what a business cycle fund essentially does.

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Financial planners believe there is significant alpha to be generated by spotting a cycle early.”The economy creates leading sectors and laggard sectors in terms of timing as one sector’s income is the expense of some other sector. Hence profit pool participation across sectors does shift over time,” said Krishna Sanghavi, CIO (Equities) at Mahindra Manulife Mutual Fund. Sanghvi believes a business cycle fund aims to capture this profit pool movement across sectors by integrating valuations and market cycles. This in turn translates into higher returns, for those who get the cycle right. Given the opportunity there have been three new fund offers from fund houses over the last year, taking the number of such schemes to 11. The category has generated an average return of 43% over the past year, compared to the Nifty’s 29.06%, generating an alpha of 14 percentage points. Fund managers were quick to spot a changing capex cycle and added stocks from capital goods, infrastructure, power and PSU banks that stand to benefit from such a change to their portfolios, which worked well for investors.Financial planners recommend a business cycle fund as a satellite allocation in investor portfolios to generate alpha. “Such schemes give the manager a chance to participate in themes that are part of the current cycle,” said Nirav Karkera, head (research) at Fisdom.

“Alpha is generated as the fund manager can rotate sectors and stocks based on opportunities available in the market, which in turn helps generate alpha,” said Vineet Nanda, founder of SIFT Capital. Nanda believes most of these schemes are managed by senior personnel at the fund house and hence merit a satellite allocation.