Morningstar is positive on certain HDFC funds, ICICI Prudential Funds as well as DSP equity funds. Kunal

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Kapoor, CEO and Aditya Agarwal, MD, India, Morningstar, chat with Ajaya Sharma of ET Now before the Morningstar Investment Conference.Edited excerpts: Two years ago when we met, it was all about emerging markets, ETFs and saying goodbye to US equities. But the reverse seems to be happening; emerging markets are in a downturn, passive investing has made a huge comeback and US markets continue to rise and shine. What is going on in the world? Kunal Kapoor: If you look at things from a longer term perspective, clearly the US has done quite well and the dollar itself has been very strong and that explains a lot of the returns. Usually, when the dollar is strong, you get pressure on emerging markets equities. But sometimes, it takes longer for a cycle to change. Our analysts are saying on a relative valuation basis that we are finding fewer opportunities in the US today and more opportunities outside the US, including emerging markets for sure. This is the longest bull market in the history of American equities after the Second World War, centred around just four names — Alphabet, Facebook, Amazon and Netflix. If I talk to an average American investor, there is no scepticism and only optimism. It is just feeling like there is a carnival going on. Kunal Kapoor: Well I do not think it is quite that extreme but certainly you do have a bifurcation in the US markets. But I do not think we should underestimate the meaningful impact of the tax cuts on the US. That has certainly been a very big positive this year for US equities. But clearly going into next year, that tailwind is not there. If you look at it from a valuation perspective, you are starting to see some pretty significantly silly valuations in certain segments of the market and even a pullback like we had two weeks ago or so, saw really rapid movements in some of the technology names that had moved up. But the reality is that relative to some of the dotcom technology companies, the majority of the stocks you named — Apple, Facebook — are generating a lot of cash and are a lot more positively inclined from a profitability perspective than the technology companies of yester years. They are great businesses. The question is are they good values at this point as well? It seems like he is sailing on that Titanic but for our boat is already yet beginning to rock a little bit? Aditya Agarwal: I would not say that our boat is rocking. We are doing the right thing for the investors. We are talking for the investors, we stand for the investors. We have to look at the markets from a longer term perspective. The markets have been rising for the last three, five years in India as well. We have seen some 15-20% of contraction this year but we want to encourage investors to think long term and to stay put in equities over a longer term. This could be just a good opportunity to buy in fact, to add more value. Easier said than done though but in the near term, are the concerns large and are we done with the pain?Aditya Agarwal: It is hard to kind of say that but I would advocate that there are some pains in the short term. But with the elections coming up and with crude being a spoilsport, it is a good time to add and find value in the market. Good news and good prices rarely come together. A year ago, there was only good news, prices were not great. Right now, there is only bad news. We are perhaps reaching that level where prices are becoming great. In last two years, cash in America is giving a return of 3% plus. That means bonds as well as cash will compete with equities. Is that a big setback for the ETFs now? Kunal Kapoor: It is less so about the active passive and just the reality that the risk free rates are starting to go up. From the perspective of how you discount and look at individual equities, you have to clear a higher hurdle in general. As it pertains to passive and active, the real challenge is that expenses have continued to trend lower on the passive side. The reality is that zero expense offerings are going to happen in the US and that is pretty dramatic as it will mean you can basically invest at no cost. One of the challenges for passive investing is that a lot of the indexes are increasingly owning larger shares of some of the companies that you highlighted and we will see if some of those companies turn out to have been overvalued. That could be an opportunity for active managers to outperform, although active managers own lots of Apple and Facebook and other FAANG names. It is an interesting juxtaposition. This is why as an investor looking at things on a day-to-day basis, it is really best to use strategies like dollar cost averaging or rupee cost averaging and using strategies like that so you are not as beholden to the swings in the market. You are really building wealth over time which is really what investing is about. You said that you are finding opportunities in the market. Where is that opportunity? Aditya Agarwal: The investor needs to stick to asset allocations that suit the risk profile and kind of make sure that they are buying at every dip. Systematic investment plans (SIPs) are making sure whenever there is an opportunity, you are adding more to your portfolio. One of the names that our analysts like here in India is Escorts. They like Escorts because they view it as a pure play agriculture name where the cycle is going to be long and as there continues to be automation in agriculture which a long-term trend. They like Escorts as pure play trend in that area. So that is one name we will be talking about today. I am sure Escorts is not the only name your analysts like. Which are the other names?Kunal Kapoor: That is the one I came prepared to talk about. The new mantra with investors is Mutual Fund Sahi Hai, up until now it is looking good because he three-year return for equity diversified as well as small cap schemes have given a positive return. But the three-year or five-year story will have a big scar, so to speak. Could that change the way for the SIP movement in India? Aditya Agarwal: Absolutely. And that is where the value of advice comes in. The advisor needs to handhold the investors and be able to encourage the investors to stay invested. Of course, there may be another 5-10% of contraction and the returns could be negative or even out. But, these are the times to buy.Escorts is just one side of the story. It is the whole rural agri push that you are betting on. So, what else?Kunal Kapoor: Well one name that our analysts do not like as much right now is Nestle India and we will be talking about that as well and that is purely a valuation call that they do not find that the valuation is particularly compelling at this point.You are in the business of rating mutual funds. Currently India has less number of listed stocks and more mutual fund schemes. Identify three categories or three schemes which could be called the go-to categories for three, five and 10 years. Your favourite large cap fund for three, five, 10 years, small cap and balanced or maybe debt? Aditya Agarwal: I do not think we work that way. We definitely have our ratings on mutual funds and our opinion on different mutual funds but it is very difficult for me to just name three funds and forget the rest of them. It is very important to look at your asset allocation. It is really important to look at your goals. Where do you have a positive opinion? Aditya Agarwal: We put our analyst ratings on our website, we are pretty positive on certain HDFC funds, ICICI Prudential Funds; we are positive on DSP funds as well and there are plenty of them.ET Now: DSP largely debt or equity?Aditya Agarwal: Largely equity.