India could see rebound in investor interest when AI-led rally slows: S Naren

Investors looking to invest overseas should be conscious of the fact that they may be investing following a period of strong performance, said Sankaran Naren, executive director and CIO at ICICI Prudential Mutual Fund. In an interview with Prashant Mahesh, Naren spoke about domestic equities, earnings growth and the AI boom in the US, among other topics. Edited excerpts:

With lump-sum investors losing money and SIP investors making only low single-digit returns over the past two years, what should investors expect going forward?

We have been telling investors to focus on asset allocation, unconstrained investing, and expect moderate returns. The reason for moderate returns is precisely the current environment, where the US AI cycle is driving a large part of global markets, geopolitical risks remain elevated, and global equity markets are expensive. At some point, expensive markets will have to correct.


Do you still feel the market is expensive?

We are in middle territory. The sectors connected to US AI look overvalued unless you have a growth mindset. Small- and mid-cap stocks are not cheap largely because of the sustained flows into them. It is not that such companies are not growing. They can certainly be growing, and some may even be growing faster than large-cap companies.

How are you looking at markets keeping in mind the continued boom in AI?

If AI-related growth continues to remain strong, Indian equity markets may continue to face pressure from shifting global preferences. However, when AI-led growth begins to slow, we believe India could see a rebound in investor interest as capital looks towards markets with stronger domestic growth prospects.

Read more: Indian stocks face a cyclical correction, not a deeper earnings reset: Mahindra Manulife MF CIO

What is your assessment of the flood of IPOs?

We think IPOs are trading at higher prices than many of the older listed companies. There seems to be a bigger bull market in IPOs than in the broader market.

So where would you allocate and where would you stay away?

I like contrarian investing now because of the significant gap between what has performed well and what has not. At this point, we like sectors such as private-sector banks and insurance, where growth is not a problem. We are also positive on insurance following the proposed regulatory changes announced recently. Our experience in the mutual fund industry has been that whenever regulations have become more customer-friendly, the industry has grown. That is why we see the changes in the insurance industry as a positive trigger from a longer-term perspective.

But in sectors such as IT and FMCG, growth has been an issue. The challenge is that people always want either a very positive view or a very negative view. The reality is somewhere in between.

What kind of earnings growth do you expect over the next three years?

Over the near term, earnings growth is likely to remain reasonably good. One reason is that inflation is positive for earnings. Second, when inflation is rising, consumers often advance their purchases. This brings demand forward. So, in the near term, earnings are likely to remain reasonably decent. In the medium term, however, earnings will depend on what happens to the US AI cycle. If the US AI cycle eventually leads to deflation, purchasing decisions could get postponed. Companies may reduce inventories, and consumers may defer purchases. That can have an impact on earnings growth.

Read more: ETMarkets Smart Talk: Rupee under pressure, inflation sticky: Will RBI be forced to rethink rates? Ankita Pathak, Ionic Asset

How should investors approach gold and silver?

Investors need not be negative on gold at this point. We continue to like gold as a component of multi-asset investing.

There is a rush among investors to allocate money overseas to diversify

At this point, we would be cautious about making a momentum-driven decision to invest overseas. Both the currency and global equity markets have moved significantly. Investors should be conscious of the fact that they may be investing following a period of strong performance.

The situation, however, is different with global bonds. Bonds have performed poorly globally, so investing in global fixed income today is less of a momentum decision.

Do you think FPIs will return to India soon, especially when US interest rates are at a two-decade high?

Right now, investors can earn around 5.3-5.5% in US Treasury instruments. They can also invest in US bonds and earn attractive yields without significant currency risk. For FPIs to return significantly to India, we will need an environment of lower global interest rates.

Our view is that we are not very far away from the peak in US interest rates. There could perhaps be two more hikes, but after that we do not believe the hiking cycle will continue indefinitely.

There is one major engine, i.e., the US AI cycle, which is driving a large part of the global investment environment. Emerging markets are not seeing significant inflows. It is not just India. This year, for example, money has gone out of markets such as Korea and Taiwan. Some money is going into Brazil and other countries, partly because they are large oil producers.