Global turmoil not over, volatility to remain: MD, ITI Long Short Eq Fund

In Q&A, Rajesh Bhatia spells out the key tailwinds and risks the domestic markets face at this juncture and how a long-short fund can help protect downside risks

The domestic economy has a strong multi-year tailwind, which will boost equity market returns, says Rajesh Bhatia, MD & CIO, ITI Long Short Equity Fund. In an interview to Sundar Sethuraman, Bhatia spells out the key tailwinds and risks the domestic markets face at this juncture and how a long-short fund can help protect downside risks. Edited excerpts:

After hitting lifetime highs in October 2021, the Indian markets have swung wildly. How has been this journey for a long-short fund like yours?

In recent times, central bank policies of developed economies have become the primary driver of global assets markets, including equity markets. The post Covid response of the top-10 central bankers of infusing unprecedented amounts of liquidity in the global economy to support their economies had the desired effect of a collapse in interest rates. Assets markets are strongly guided by cost of capital. Naturally, as interest rates were lowered, equity markets rose. Think of it as a price-to-earnings (P/E) re-rating of asset markets. It is for this reason that you saw a one way upward trajectory in equity markets between April 2020 and October 2021. We recognised early that these policies were the primary driver of markets. So, when high and stubborn inflation worries emerged globally subsequently as a consequence of these policies and the evolving geopolitical situation, it became clear that it could mean a forced reversal of the liquidity trend and, therefore, a reversal for this primary driver for markets. Our gross exposure to equity markets peaked in October and has subsequently been in a cautious mode. While global markets have corrected significantly, we must admit, we have been pleasantly surprised by the relative resilience of Indian markets.

As far as we are concerned, one must know that the objective of a long-short equity fund like ours is to protect downside and in the past four and a half years of existence of our fund, we have consistently demonstrated that ability, including in this phase and more notably during the sharp fall in markets during February-March 2020.

Did you manage to beat the Nifty during the last one year?

As of September 2022, our fund was up 1.17 per cent (gross return) versus Nifty's -2.97 per cent. As discussed earlier, markets have become macro driven with central bank policy being the key determinant of market direction. In an environment of primarily external turmoil, the ability to react tactically is key even if the structural story is intact. As a long-short fund, we are advantaged to be able to change our exposures with agility as the situation demands. This helped us outperform in the primarily macro driven market of the past one year.

Will the coming year also be as volatile? What should investors in the long-short AIFs expect from their fund managers?

We are fortunate to be in Indian markets, given the multi-year tailwind that India has. However, our markets have been struggling for the last 12 months due to the overwhelming troubles of global markets. We believe the global turmoil is not over. We expect markets to continue to remain volatile. So, if the environment deteriorates, then a long-short fund, like ours, will exercise defence and vice versa. A long-short equity fund seeks to offer an asymmetric returns profile. We aim to capture the upside potential of equity markets but aspire to prevent downsides, where by the way we have demonstrated consistency. Investors like the uncorrelated aspect of our fund to their overall portfolio. We believe an asymmetric profile makes a long short fund a good product for wealth creation, especially on a risk adjusted basis.

What are they key headwinds and tailwinds that domestic equities face at this juncture?

India is one of the best positioned large countries in global markets today. We are on the cusp of a credit and earnings cycle revival. Our corporate balance sheets are healthy, as are our bank balance sheets. India has tailwinds from the positive government actions of the previous few years such as tax cuts, GST implementation and thereby formalisation of the economy. We are also likely to benefit from China plus one in manufacturing. All these tailwinds mean a secular push to a $3-3.5 trillion economy growing at the fastest pace in the world. As profits grow, so will stock markets in value terms.

The challenges are more cyclical, driven by the deteriorating global macro, which should not be ignored either. Rising interest rates globally, persistently high inflation and a slowing global economy will put macro pressures on our economy too. Our exports are flagging, our current account deficit is high at 3-4 per cent and there is little fiscal space, while interest rates are still rising. So, we may have to be more careful in assessing the short-term prospects.

Do you expect domestic liquidity to remain strong? Will tepid one-year returns weigh on incremental flows?

We don’t see any sudden shifts in that attitude, which bodes well for our markets. The good thing about domestic liquidity is Indian market resilience, although it has also meant Indian markets are relatively pricier.

How has the September quarter earnings season panned out so far? What are the earnings growth expectations for FY23 and FY24?

In a nutshell, better than expected. What stood out were healthy banking results, weak consumer results especially those catering to the lower end of the pyramid. We think earning expectations have moderated for FY23. How FY24 transpires would depend on whether we see any global shocks, barring which we could see upward momentum of healthy teens earnings growth from FY23.