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Even a juvenile delinquent can see that valuations are stretched, but does anyone really care, reports Ashok Kumar.

india Updated: Jan 02, 2007 20:04 IST

After listening to the silly sounding caveat 'but valuations appear slightly stretched' from fund managers ad nauseum for over a year, all I can say is that it seems to be an excuse for the gross underperformance of most mutual funds, when pegged against the benchmark index.

Even a juvenile delinquent can see that valuations are stretched, but does anyone really care. As long as the great 'India Growth story' theme remains the 'flavour of the month' (make that months) with the Foreign Institutional Investors (FIIs), there is only one way that the Indian stock indices can go —upwards.

Of course, one must hope that the FIIs do not make a comparative study of the forward P/E's of competing markets and wake up the way they did (resulting in everyone waking up) in May 2006. That resulted in the indices taking a 'Humpty Dumpty' type of fall.

An analysis of that event will not cover our dear fund managers with glory. Having telegraphed their intentions to the already invested FIIs by senselessly raising funds through March and April, 2006, some fund managers provided an excellent profit booking opportunity and exit route to the FIIs, who then bled the markets downward by aggressively pressing sales.

Predictably, this led to a run on mutual funds — they were actually selling at levels they should have been buying on account of redemption pressures. Sadly for them, this provided an opportunity to the FIIs to now buy back what they had sold, having pocketed a handsome arbitrage profit. Little wonder then that the FIIs laughed their way to overseas banks while most of our poor mutual funds underperformed.

Does all this mean that equity as an asset class will not fare well in 2007? That too is a somewhat senseless argument as asset classes are supposed to perform over a longer time-frame and not just in one given year. Unless our very market savvy Finance Minister chooses to undo the largesse he bestowed on this asset class a couple of years ago in terms of preferred Capital Gains tax treatment, chances are it will remain high on the preference list of those who matter, volatility and such uncertainties be damned.

What are the alternatives then? Real estate is fast going out of bounds for the average investor, at least till the option of retail investment in real estate funds becomes a reality.

Debt, with its modest returns, further lessened by tax snipes, is at best an asset allocation re-balancing option when the funds get skewed too heavily into other asset classes. Of course, pensioners and those who have already made their pile on equities, would do well to stick to this asset class in deference to its relatively lower risk profile.

That leaves us with gold. Despite its slower rate of appreciation when compared with equity, the wisdom of buying into a commodity where the demand-supply gap widens by the day cannot be overstated.

So, at the end of the day, those looking at 2007 in isolation will, to my mind, continue to find equity far too exciting to resist, while those investing with their children in mind, might want to consider a kind of Systematic Investment Plan on gold, alongside. It remains, after all, the ultimate hedge, when all other asset classes start sinking.

Happy investing in 2007!

(Ashok Kumar heads Lotus Knowlwealth)

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