With a degree in Mechanical Engineering and a Masters in Business Administration, Mr Sandesh Kirkire has over 10 years experience in corporate finance, investment banking and trading in the debt market. He gained some valuable experience while working with SBI Capital Markets and ITC Bhadrachalam before he joined Kotak Mahindra in 1994.
Currently he is the Vice President, Fixed Income Securities in Kotak Mahindra Asset Management Company and manages the K-Bond and K-Gilt funds.
In an interview to personalfn.com, Mr. Kirkire spoke at length about the interest rate scenario in the country and what he foresees as the future of income funds in India.
PFN: How do you find the general economic climate in the country?
If you look at just the figures, the scenario is encouraging. Credit growth has picked up considerably in the last year and more so in the latter half. The period before that - 1996-98 was characterised by slow credit growth. So with over 17% credit growth in FY2000, the signs of an economic revival are very much there.
Going forward, the numbers show that there is adequate money in the system to fund the government's borrowing programme. This is a pure mathematical analysis going by the current money supply and the 1% cut in CRR. Out of the government's Rs 1,170 bn borrowing programme, more than Rs 700 bn is through inflows in the form of maturities and coupons. So a major portion of the borrowing programme is funded by the government itself. There is some concern about the magnitude of the government's borrowing programme. But if one looks at the net borrowings, its not really large, in fact its at last year's levels.
Of course, the government will be competing with the corporates for the funds. One of the roles of the Reserve Bank of India (RBI) is to act as a merchant banker for the government and to raise funds for the government in the most cost efficient manner. While doing that the RBI has to ensure that interest rates are soft, so that the government can borrow at lower rates.
PFN: So you don't expect the government to face any problems in raising that kind of money for its borrowing programme?
If you look at purely the figures, I don't think the government should have any problem. Further the RBI is also expected to resort to its open market operations continuously during the year. Mind you in the last year the RBI had very effectively used the OMOs for controlling the liquidity and the volatility of the markets. By the end of the last year in fact we saw a net demonetisation happening, with the RBI actually selling more securities than what it purchased through the private placements and the open markets.
PFN: Going forward, what is the interest rate scenario?
As you know, interest is the cost of money and like other things it is linked to demand and supply. Supply is there in the system and there is anticipated demand. So there is no apparent problem. However, the government's borrowing programme plays a very important role. We know that the government's gross borrowing programme is fairly large, but we also know that on a net basis, the borrowing programme does not seem as massive.
Then we should look at the maturity pattern of the government's borrowings. We must look at both the principal amount and the coupons that are payable. This will add to the liquidity in the system. The figures tell us that upto 2008 the government will have to pay, on an average, over Rs 500 bn annually. In certain periods between 2000 and 2008, the government has to pay a lot more - something in the region of Rs 700 bn. The RBI as a merchant banker (to the government) will try to ensure that the government raises the maturity of its borrowing programme.
Thus it is likely that the RBI will issue paper that is of a longer maturity i.e. maturing post-2008. This creates a scenario where in the medium term there is a shortfall of supply of fresh paper while in the longer term it is much larger. As a consequence the yields of the long term paper (maturing beyond 2008) is likely to rise whereas in the medium term, the yields may actually decline.
PFN: With the yields coming down, public provident fund (PPF) returns will become relatively more attractive. How will that affect K - Bond and K - Gilt?
There are investors who ask us the same question. We provide better returns than the PPF by what is called as 'riding the yield curve'.
Let me make explain with the help of an illustration. Take a 5-year bond (face value Rs 100) with a coupon rate of 11%. I anticipate that 6 months down the line I will be able to sell this bond at a yield of 10.5%. That means for the next five years I will get a 0.5% (Rs 0.50/100) reduction in the yield, which amounts to Rs 2.50 over five years (present value Rs 1.25). On an annualised basis this gain amounts to 2.5%, which when added to the yield of the bond (11%) will add up to 13.5%. Thus, I am able to provide superior returns as compared to provident funds and other such avenues of investments.
PFN: Over the last few weeks the markets have witnessed some turmoil. How has that affected the inflows in your income funds (K-Bond and K-Gilt)?
We witnessed some positive inflows in our income funds when the markets fell. We saw a lot of corporate money coming in to collect the dividends declared by funds, which was expected. There was also some money that came in from the equity markets.
PFN: In your Gilt fund, do you find adequate participation at the retail level or is it mainly at the corporate level?
A large portion of the investments is at the corporate level. I believe individuals will take to gilt funds in a big way, when we see gilt funds becoming a proxy for bank deposits. But for that we need the right technology. The investor should be able to exit the fund easily like in the case of bank deposit and must get his redemption cheque quickly. We are currently doing it within 24 hours for large amounts when the investor so demands. But given the right technology and efficiency we will be able to move funds from the investor's account just like a bank deposit. Once this system is in place, I see increasing participation from small investors who may use it just like bank deposits.
PFN: Have individual investors understood the concept of gilts correctly?
Initially investors really did not have any idea about gilts. Let me put it like this, income funds did not know volatility until the launch of gilt funds. And it was with the launch of gilt funds that the investor also learnt that income fund NAVs could actually fall.
Any fund has essentially three investors on any day viz those which are entering the fund , those which are already with the fund and those which are exiting from the fund. The fund NAV is finally the reflection of the price of the assets that it holds. To be fair to all these three categories of investors it is that much important to price the assets in a fair manner i.e. price it at a level which is realizable in the market place. We have seen in the past the NAVs of Income funds going up inspite of the rise in interest rates. This has primarily happened due to not marking to market the assets of the fund. In such a scenario those investors who have exited the fund at the higher NAV are actually taking away the wealth of the investors who stay back in the fund. Further those investors who enter the fund at such time are actually paying more for the assets than their market value. Thus the fund in effect has penalized both the investors viz. those which are entering the fund as also those who are already invested with the fund. It is this concept that each investor needs to correctly understand while investing into any fund.
We were the first fund house to launch a gilt fund way back in December 1998. Given the fact that it was a novel concept then, we had to educate the investors about the interest rate impact on NAVs. But overall we have done pretty well for ourselves and our K-Gilt net assets have ballooned from Rs 850 m in December 1998 (i.e. at inception) to Rs 8.5 bn.
PFN: How has dividend stripping affected your functioning as a fund manager?
In a way it has. One way to curb dividend stripping is by declaring dividends more frequently. Then of course there is a higher exit load imposed during this period.
PFN: With the higher dividend tax imposed on dividends of income funds, do you think it will deter funds from declaring dividends and/or it will discourage investors from investing in the dividend options of income funds?
An investor in a fund earns income either through dividends or capital appreciation. Both these revenue streams are far superior to interest income (on a deposit) and are also more tax-efficient. For a corporate, the income from a pure interest stream is taxed at 38.5%, while the dividend from an income scheme is taxed only at 22% (20% and 10% surcharge). So there are tax arbitrage opportunities there. Investors with a 12-month horizon should look at entering the growth option of income funds and they can avoid even the 22% tax on dividends.
PFN: What will be the impact of the recent market volatility on the mutual fund investor?
Many investors had entered growth funds last year with the excellent performance of stocks. These investors were rewarded with good returns in this period. However, in the last couple of months we have witnessed some turmoil in the markets and this has had an adverse impact on the returns of growth and balanced funds. So investors who got more than 100% returns last year are now getting negative returns with growth fund NAVs falling by as much as 30-40% in a month. This has come as a rude shock to these investors and will have some impact on the inflows in growth funds.