What does it take to survive multiple market cycles and create wealth?
This week, we have a really, really special guest. @Bhuvan caught up with Sankaran Naren, one of India’s most admired and well-known fund managers, and the chief investment officer (CIO) of ICICI Prudential AMC. In this conversation, we spoke about his 3-decade career in the Indian markets as an investor, broker, and fund manager. He’s perhaps best known for his contrarian style of investing that has helped him create immense wealth for investors. This conversation was nothing short of a masterclass on investing, and we hope you enjoy listening to it as much as we did recording it.
- How he discovered the stock market.
- His thoughts on the current market cycle and the similarities if any between the 2008 crash and the 2000 dot-com burst.
- What makes him optimistic about India.
- Contrarian investing and value investing.
- The influence of central banks on the financial markets.
- IPOs of new-age companies.
- Corporate governance in India.
- Asset allocation and the role of gold, debt, and international stocks.
- Asset management.
- How he invests personally and his investing philosophy.
- Career advice for people who want to enter finance.
- Book recommendations.
0:42 - How he discovered the stock market.
6:45 - Contrarian investing and value investing.
19:23 - His thoughts on the current market cycle and the similarities if any between the 2008 crash and the 2000 dot-com burst.
35:50 - The influence of central banks on the financial markets.
42:10 - IPOs of new age companies.
44:42 - Corporate governance in India
47:15 - What makes him optimistic about India
50:32 - Asset allocation and the role of gold, debt, and international stocks.
1:03:49 - Asset Management
1:06:47 - How he invests personally and his investing philosophy.
1:07:45 - Career advice for people who want to enter finance.
1:09:25 - Book recommendations
Hello, everyone. Thanks for tuning into this episode of Zerodha Educate. Our guest this week is S Naren, the chief investment officer of ICICI Prudential AMC. He’s a real market veteran with almost three decades of experience and has pretty much seen all the cycles of the Indian markets. Naren is most known for this contrarian bend to investing.
In this conversation, he speaks at length about his experiences in the market, his investment philosophy, asset allocation, the influence of central banks, Indian economy, and much more.
Bhuvan: So Naren Sir, thank you so much for doing this. So, I wanna start right at the beginning because a lot of these younger generations might not have heard about your experiences in the market.
You started in the markets at the time when nobody really heard of the markets and probably the retail participation was also very nil. So what was that initial trigger that got you started in the market? So how did this all come about?
Naren: See, actually, part of the trigger was personal. What happened was my mother passed away when I was 14 and I had no brothers or sisters; so we had a two-member household, me and my father, and we needed something to talk other than cricket. So somewhere, you know, my father was interested in investing in public issues and he used to tell me that if he got an allotment of a public issue, it was like a lottery and he made money out of that lottery. So that got me interested in my teenage years and so lotteries are always interesting, you know, if you can make money very easily, somehow that gets you interesting; that got me interested in my teenage years in investing.
And while I was studying at IIT Madras, I got interested in equities and so it was part of my weekend conversations at home. Then I decided that this was just too interesting; forget doing engineering. I decided to do an MBA at IIM and said that this should be my life. So somehow I decided to make equities my life way back in the 80s in Chennai. And it was something which was not that common, I would say in Chennai in the late 80s and early 90s.
So I would say I was very lucky in getting into this field way back then. And because I was one of the few educated people wanting to be in this field, in a very, very obsessive way, it was, very useful for us you know, and if you look at the entire mutual fund industry, it is stuffed with people of my generation, from IIMs because we were the first people who got the opportunity to work in the organized industry, which came up thanks to the regulator, getting created in 1992 and allowing mutual funds to set up and various brokers to getting setting up and evolution of National Stock Exchange and Bombay Stock Exchange and all the Foreign Institutional Investors coming into India.
So my generation was very lucky and I was lucky because I was very interested in this field.
Bhuvan: Got it. And investing is usually a very lonely endeavour and you got started at a time when there was absolutely no one. So how was it very different from today in the sense that, how did you go about gathering the data? How did you go about analyzing the companies back then? Because you were pretty much on your own. I’m assuming especially in Chennai at the time.
Naren: See, that is absolutely fascinating if you ask me because it was a world without CNBC, it was a world without internet and you know, I persuaded my father to buy Economic Times, buy air surcharge, and we used to pay for the air surcharge and get Economic Times edition.
Then I had two waste paper marts near my house. I signed up with them to collect all the annual reports from them and I had the knowledge base to understand the annual reports. So those people couldn’t understand why I should take something which was worth almost nothing for a higher price, but the kind of returns I got by reading all those annual reports, which were available at raddi in those waste paper marts was just unimaginable.
So recently I met a person who used to be the CEO of Kirloskar Copeland. I was telling him that, Kirloskar Brothers’ subsidiary was Kirloskar Copeland, and he was the CEO of Kirloskar Copeland. In those days, you know, there was no requirement to do consolidation of annual reports and prepare consolidated annual balance sheets. So by reading the annual report of Kirloskar Brothers, I found out that while Kirloskar Brothers’ standalone annual profit was very low, consolidating Kirloskar Brothers, the price to earnings of that company was 2 and I could buy that share at a PE of 2. So I was telling that ex-CEO of Kirloskar Copeland that by managing to get that annual report from raddi, I managed to make quite some money by buying that share in the 90s.
So, you know, a world without CNBC, a world without the internet, a world without being able to get even annual reports was a very inefficient market but it was very easy for investors to actually make money in those days. Unlike today, where, Zerodha has kind of democratized investing and made even broking costs very low, in those days, you know, everything was difficult, but it was easier to make money then. That’s how I look at it.
Bhuvan: Got it. No, this reminds me of a story, I was recently listening to one podcast of Sir John Templeton’s great-granddaughter. She was saying, he looked at Japan and he found the same thing. These Japanese companies were not consolidating their earnings and he found absolutely cheap companies and he made a killing just before the Japanese bubble. So your story kind of reminded me of that story.
You are probably well known as the most contrarian investor among the Indian investing fraternity. And you’ve, you know, previously mentioned that discovering that style took quite a few stumbles. So like how did you end up figuring out that this whole contrarian investing style is what suits you and also the other part of the question is people confuse contrarian and value investing.
There’s also a SEBI category; SEBI has re-categorised both subcategories. So one is contrarian and value investing the same? Or is there a certain nuance to it? And so where would you place yourself on the spectrum?
Naren: I have a colleague who calls me a contrarian investor, and he says that I’m not a value investor, I’m more a contrarian investor. See the way I look at it is, contrarianism came outta the fact that, you know, we are managing large sums of money. So when you are managing large sums of money, investors give us money almost always at the wrong time and take out money also at the wrong time very often and so what happens is that when you give us money at the wrong time, so if you’re contrarian, you buy things which are cheap and so in 2007, pharma was contrarian and, you know, Infra was the most momentum and so it was very easy for us to buy pharma at that point of time. It was very easy for us to buy FMCG at that point of time.
And, so I believe that when you are managing a large amount of money for other people’s funds’ other people’s money, I think contrarianism actually works in a very, very nice way because you are actually buying what everyone wants to sell and you actually sell them what others want to buy. So it becomes very easy to manage large sums of money. And since the goal of ICICI Prudential is to manage large sums of money of other people in the right way. So contrarianism works in a nice way when you have to manage large sums of other people’s money. And that’s how I think we at ICICI Prudential desire to become contrarian in our Value Discovery Fund, although it is something which is known for value investing, essentially it becomes contrarian.
And that is the framework which we found very useful and people mix both value and contrarian. Even value is very complex because frankly at one point of time people say that value means quality, quality means value, all kinds of debates keep coming. But I think that’s quiet, it’s not necessary. End of the day, you have to buy something lower than intrinsic value and if you buy something which costs much costlier than intrinsic value, you have a problem. It’s like you will buy in a sale of Amazon, or Flipkart or any of these sales, you’re not going to buy on the day after the sale. And you’ll buy using a credit card discount or something like that. That’s what you would do if you are a value investor. And that is the kind of model that you would do if you are a value investor, and that is what we are all trained to be, because finally, when you are managing other people’s money, you have to make money for them, and that’s how we can actually ensure that we are managing other people’s money well at ICICI Prudential.
Bhuvan: Got it. So by discovering that step on the journey, were there any mistakes or any other blow-ups that come to mind? I remember you fondly, you know, remember that whole infrastructure boom in 2008 and people chasing that fad and that was kind of an inflection point for you if I remember your previous conversations correctly.
Naren: Yeah, yeah. There are, you know, we always learn from mistakes. I think the bigger mistake I made was personally in ‘94, ‘95 when I did not know what is momentum and made mistakes in ‘94 ‘95. That is why I learned that momentum is one of the ways in which things are difficult unless you know how to come out. So momentum is a good trading strategy, but not a good investing strategy. Can be a very good trader through momentum rule.
But in 2007 what happened was I was running both the infrastructure strategy and the value strategy and we used to tell people, give us money in the value strategy, and don’t give us focus on the value strategy, but no one was willing to give us money in the value strategy at that point of time.
So that’s how we look at it and finally, you know, investing is not a zero-mistake game. It’s an area where if you look even at a guru like Warren Buffet, he made mistakes in IBM, he made mistakes in TESCO. So, you know it is not an, it is not an industry or an area where you can avoid making mistakes. Everyone will make mistakes. And it’s just that the size of your mistake has to be lower than the number of things you do correctly. And if you think that you are not going to make any mistake, you’re not fit to do investing. So I tell people, investing is not arithmetic and if you think it is arithmetic, then there’s a big problem. But at the same time, if you are going to make bigger mistakes and fewer correct things, you’re finished, and then you lose a lot of money. So this is how we look at things and over a period of time, you have to make fewer mistakes. Otherwise, I won’t be in front of you today.
Bhuvan: But being this contrarian also means that you are holding or you’re rather invested in something that’s deeply unpopular, which means you’ll probably end up looking bad for extended periods of time. I think we are seeing this right now in the US when this whole value was–quantitative value to be more specific was deeply out of favour for, I think, well, over a decade ever since 2008, and it’s, it’s an extremely painful thing to also do. Would you agree?
Naren: See this value is a bigger problem than contrarian. If you ask me, that’s number one, number two is one of the things that we have learned at ICICI Prudential is the hope is that what you have bought in a contrarian way in 2019 should help you in 2022. What you have bought in a contrarian way in 2020 should help you in 2023. What you have bought in a contrarian way in 2021 should help you in ‘24.
So while what you’re doing today may not help you this year, some of the years, well, some of the work that you’ve done in earlier years should help you in the current year. Now, where is the problem? The problem is sometimes that all the work that you’ve done in the last three years comes and helps you in the same year. And then what happens is it becomes a problem of too much performance. So you sometimes have a situation of too much performance. Then that leads to a situation that next year you don’t get all the performance because all your performances has got bunched up. So as long as you–it’s like a going concern and you are running money in the same place for a long period of time, frankly, we have not had so much of a stress, but the problem always comes primarily because of the fact that performances come bunched up.
So there are years where there is no performance, primarily because in an earlier year you got all the performance and that becomes a problem. So there is a year where performance just doesn’t come. And that is difficult to explain because investors don’t come in an open-end fund at the same time.
So if an investor has come in value discovery in 2004 and stayed till 2022, that person says over 18 years, where has been the problem, whatever person has come in 2006 and stayed till 2008, that person says, what is this value investing? Whereas a person who’s come in 2012 and stays till 2022 will never crib, but a person who came in 2015 and stayed till 2017 says, what is this value investing?
So this is where the challenge is and because we don’t control markets, we control process. The day we control markets, we will end up getting into deep trouble as you know. So we are controlling the process of investing and we’ll stay rigorously followed on our process rather than on anything else.
Bhuvan: But during these painful periods there’s always this temptation because we’ve seen this with numerous storied fund managers where there’s this temptation of just adding whatever is going up at the moment or diluting the fund management. So how do you guard against those mistakes? It could be, you know, speaking to your colleagues or having a co-fund manager, like what does it take to ensure that you guys stick to the process, no matter what?
Naren: See, I always keep co-fund managers who function as psychiatrists for me. So every day they hear my vowes, I hear their vowes and at ICICI Prudential, I have so far in the mutual fund, not hired an equity fund manager who has managed money outside. So all of them are used to all the stresses of managing all these things. So we have managed to create a homegrown team over a period of time.
So what happens is that frankly, we all need a support system. So just like a family’s support system when you are going wrong due to following the right process, but not getting performance, you need a support system. And that support system is what my colleagues at ICICI Prudential support me and we have to support some of my colleagues because that’s the only way forward because we don’t control outcomes, we control process.
And that’s what has helped us over a long period of time across all the schemes at ICICI Prudential because you can never control outcomes because no one could have predicted COVID, no one could have predicted the Ukraine war, no one could have predicted what happens in global financial crisis. In 2007, if you had told me, there’ll be a global financial crisis in 2008 I would have told you, what is this? What are you talking about?
So no one would’ve predicted that the US will be an epicentre of a financial crisis. So finally, at the end of the day, it is my team at ICICI Prudential, which supports me and I have to support my team and that’s how it has worked over a period of time. But what we have realized is as long as we have got a great process and that is how, you know, if you refer to some of the conversations I have mentioned in some of the books. In Chennai, we created a team of friends and we used to use that team to actually pour out our sorrows and because investing is about managing your emotions and like we have at ICICI Prudential a homegrown investment team in Chennai we created a group of us and we all managed to pour our sorrow, to hold our process intact. And once you hold your process intact through thick and thin, you normally get outcomes eventually and that’s been our experience.
And to hold that process tightly during the times when you don’t do well in the short run is the most interesting thing is investing. If you ask me.
Bhuvan: Got it. I wanna pick up on that thread that you mentioned about not predicting 2008, et cetera because right now markets are front and centre on everybody’s mind. I’m sure people would be, I think this is probably the most asked question you must have had in the last one or two months.
I think people are surprised at just how quickly things went from being a relatively okay last year to being horrifically bad this year. So just in the last six months we’ve had a war we have had top of nuclear warfare, inflationary trends are hitting record highs, stagflation, recession, deflation. I don’t know how many other superlatives are out there. So is it all over? Is Nifty 50 actually becoming 50?
Naren: I don’t know. See, there is nothing called certainty in markets. If tomorrow morning, let’s say there was a Russia-Ukraine ceasefire, just imagine how the market mood will be. If tomorrow morning, Jerome Powell came and said that this month I will do a 150 basis point rate hike and after that, I’ll stop all rate hikes. And I will start doing quantitive easing in a month from now. Imagine how the market would be.
So frankly there’s nothing called certainty, but I think, you know, last year the market had gone too ballistic. Money-making in equity markets can never be so easy. If it was so easy, why do all of us have to work, we can just make money in the markets. Why should we work? We don’t need to do any work. We’ll just do markets.
So I believe that last year was an exercise in thinking that making money in the markets is too easy. And whenever people think like that, they obviously are going to get surprised. I think 2021 was an aberration. What’s happening over the last one year is more logical than 2021. And if people think that you’re going to have years like 2021 always I think, you are mistaken because then you don’t need to work. I will say, just go full time into markets, leave your job. Go full-time into markets. Don’t study just do markets. That’s what I tell people to do. If every hour to be like 2021.
My own experience and you know, I’ve been a stock broker for 10 years. I’ve been a fund manager for 18 years. I’ve been in investment banking and project finance. My belief is that investment is a very good part-time activity. Where if you’re not dependent on the returns of the activity and you take it that you’ll be long term, you actually have a better experience than if you do an activity where you think every month you need to make money outta that activity.
Bhuvan: But that’s gotta be heartbreaking for all the people who dreamed of making millions in the last one or two years. On that very note, I know in predicting is hard, there’s a quote which says “predicting is hard, especially if it’s about the future”, but there’s some element of predicting baked into the investment process.
Given where we are today. Like, do you have any base case scenarios in terms of what can change and what can go horrifically wrong that might affect the money that you guys are going for. Because we seem to be at a point where a lot of these people use this term called regime shift. I don’t know whether you agree or not, but do you have any sense of how things might pan from here?
Naren: Actually, what we do is we try to do what we call a pre-mortem. One of my gurus called Michael Mauboussin says do something called pre-mortem because as you know in India, and in many other places you do something called post-mortem. And once you do a post-mortem, what you do is you always try to identify who’s responsible for a problem, and that never works.
So what we do is pre-mortems. So our pre-mortems at this point of time suggests that if there is going to be a resolution of Ukraine - Russia, there is a very big positive sentiment possible. If there is going to be a situation where the Fed turns out to be very Doish and says that we are through with the rate hikes. We are going to have a very, very positive environment. These are the two very, the third is at some point of time, if the Indian investors say is that equities is a risky asset class, then we are gonna have a big let down.
So I believe that at various points of time you have to do a premortem to think what can go wrong. What can go, right? And then prepare in advance and if you prepare in advance, the fourth I would say is that China has been following a zero COVID policy. If one day they wake up and say, we are not gonna follow a zero COVID policy. We are gonna allow people like in other parts of the world to do what it takes, but we will allow some people to have COVID, but the economy will be allowed to go on normally that will lead to massive growth in the world economy. So that will be a fourth.
So what we do is we do pre-mortem on all these things and say, if these were to happen, we frankly we think this would be what we should do on that day and that is how we think. Because we can’t predict what will happen, it’s impossible to predict what will happen, but for various events, we tried to predict, for example, we always knew that some of these loss-making companies cannot go on forever and we were sure that one day it’ll fail, but when it’ll fail, we didn’t know. We said that the first IPO, which happens of a loss-making company, which falls in a big way, that’ll lead to derating or many other companies that call went right.
So what we believe is we have to do pre-mortems and pre-mortems are done in a very nice way, because at the end of the day, there is no throwing stones at each other. We are actually thinking about what can happen if this happens. And we discuss it between all of us in our team and that becomes a very smooth situation. We also think, when will that Zerodha customer become more bullish on equity, when will the Zerodha customer become less bullish equity, this kind of discussions. And these kinds of things help us a lot.
Investing is not an arithmetic model, it is always a more complex model where X can lead to Y, Y can lead to Z et cetera. And that’s why it’s very interesting also in the long run because if it was so simple it wouldn’t keep me so enjoyably involved in investing after being in it for more than 33 years.
Bhuvan: Got it, makes sense. Along with Michael Mauboussin, one other person that you mentioned is one of your gurus is Howard Marks and you are also I think a believer in his market cycles kind of a frame of thinking. So, if you were to apply the same lens to two of today’s markets, where do you think we are in, are we in the boring phase, which you introduced in one of the talks or are we in the sort of the crisis or more sort of crash stages of the cycle?
Naren: I would say, you know, the foreigner is in a situation where the person is much, much more scared about the market. The local investor is in the boom phase. So I would say the combined is in the boring phase. Actually, the foreign investor thinks the markets are in crisis, the local investor thinks we are in a boom, the combination of that crisis and boom results in a market which is boring because that’s why markets go down, then they come back because I would say that global markets are much more closer to a crisis, local markets are closer to a boom. Thanks to local investors. Combined is closer to a boring market, but I wouldn’t call it boring. I would call it volatile markets. And that’s where we are at this point of time. But I think the local sentiment is fine. It is the global sentiment, which is really scary at this point of time.
Bhuvan: Got it. So I’m a millennial and my generation has never seen a proper market crash, 2020 was supposed to be one, but we got lucky because there was a sharp drop and equally sharp recovery. But as things stand today, do you think the initial stages of the last, let’s say six months look like any of the previous crisis to you be 2008 or even the dot-com bubble?
And two, like, because those were really, really bad market phases and how difficult was it to manage money during those phases? Because in one of your talks, if I remember correctly, you had said that after 2008, you guys didn’t see any new money into your funds for I think over a year.
So two parts, one, does it look like the onset of something bad and two, how difficult was it to manage money in the previous crisis so that the newer post-2008 babies have some frame of thinking?
Naren: No, I think that toughest phase was the nineties, you know because first, you thought that you can make money out every year, that kind of attitude we had and in 94-95 you make a mistake. Then, you know, the market of, I think the Nifty of ‘94 came back I think if I’m not right in 2003.
So, I would say that the nineties was the toughest period and I think there almost, even in my team, most people haven’t seen the nineties. So this has become a big problem. When I tell people that the market doesn’t need to fall in one month and recover the next month fully, people think that I’m talking something illogical but that’s the problem at this point of time.
And when I tell people equities is an asset class that carries risk, that is why SEBI says securities market carries risk, equities is a riskier asset class than debt, people look at me as though I’m from some other planet. But I’m telling them based on my experience of the nineties and this is the challenge at this point of time that, you know, when I tell people invest in debt mutual funds also don’t invest only in equities mutual funds invest in debt mutual funds also invest in debt mutual funds, hybrid mutual funds and equity mutual funds.
People think as though debt mutual funds don’t need to be invested in. And that is mainly because they haven’t seen the nineties. So my challenge is that equities has become an asset class of choice for everyone. Just like the 2008 to ‘13 phase, you know, I couldn’t convince anyone that real estate was that kind of asset class and people needed to think equity at that point of time. And in that phase, I was so frustrated with everyone’s over-interest in real estate at that point of time. It’s not that equities is very overvalued. It is just that people have to consider other asset classes that are debt mutual funds as well. And that is a challenge I believe that which I think is not there in people’s minds.
Second is you can go through a long sideways market also. And that is the reason, you know, we started popularizing categories, like balanced advantage because of that reason. Having said that investing is a very interesting business and at different parts of the cycle you have to do different things. And I believe that the mutual fund industry has created such interesting products, you have products for all kinds of cycles.
Bhuvan: Got it. So one common theme that comes up whenever you hear you know, investors who have been through multiple cycles is so some of these crises tend to leave deep scars and they kind of change the way they look at the markets. Both in terms of how they approach investing and also more on a philosophical level.
So has it been the same case for you because you mentioned the nineties multiple times and also 2000s. So did these two crises, how did they shape your thinking or how did they change your approach to investing?
Naren: A lot, in the nineties I misjudged the problems associated with leverage personally. So that led me to problems. In 2007-08, I did not understand what is macro, then when the global financial crisis hit and then when investors lost money in the in infrastructure fund, I said, I should understand the global macro. And after that at ICICI Prudential we managed to create the balanced advantage as a category because of that reason, we said that we can’t afford to have a situation where people lose 50% very easily in equity funds.
And I think, you know, we have to keep learning and we’ll keep on learning and the thought that when you lose money and that too when you lose big money, there are a lot of things which get hurt and you have to learn from those experiences and create strategies or products to ensure that the next time you don’t make the same mistakes. And I believe that for an investor, one of the most important things is introspection. How do they introspect based on the right things that they have done and the wrong things they have done I believe that if you spend some time on introspecting, you’ll actually learn much, much more and that introspection has to come internally. Because I believe that there are a lot of lessons I learned from the mistakes I made in the nineties. And at all points of time, you know, investing, since it’s not a zero error game you will keep making mistakes and you continuously learn from those mistakes. You will actually learn a lot of things and this is what we have seen over a period of time.
Bhuvan: Does this quote that one of these investors Cliff Asness says “have an open mind, but not so much that the brain falls out”. So, and given that you also work in this institutional construct wherein you work with multiple other fund managers, is it difficult to keep this open-minded because we are all ego-driven animals and we are all susceptible to multiple biases and this whole behavioural cocktail makes for a very heady portion. Is it difficult to keep an open mind because, in order for you to change, you need to know that something has gone wrong and you need to fix that? How difficult is that?
Naren: Bias is a big problem, but that’s the reason I don’t recruit fund managers from outside into our mutual fund and, you know, we have had a beautiful experience of people joining us at the entry-level. We train them in one sector, then train them in another sector, then we put them as a co-fund manager in some of the small schemes, slowly train them up in fund management and then give them bigger responsibilities.
But finally at the end of the day for a fund manager, you require humility, you require open-endedness, and bias is bound to come, but at the end of the day, if you are not able to hand, if you create too many biases for yourself, you are headed for trouble. But at the same time, you know, you need to have the humility and the open-mindedness to create alpha and you have to create a model which allows you in the long run to manage other people’s money in the right way. And that’s what we try our best. But having said that every human being has its own feelings and its own positives. And we have to use the positives. So where I work with my co-fund managers, I find that each of my co-fund managers as one strength or the other, and I have my own strengths and my own weaknesses. So that is how we found it over a period of time.
Bhuvan: Got it, so in your previous interactions with the media, et cetera, you had mentioned that the actual fund managers are not the fund managers of the fund, the central banks are the biggest fund managers in the world right now. And given that today, we are like I was mentioning, people are throwing this term called regime shift and given that most of these other central banks are also judging by the market opinion are far behind the curve in terms of tackling inflation. Do you still stick to that opinion that central banks have a disproportionate, you know, hold on the markets and do you think they are at this point where they are losing it and things could go horribly bad for all of us?
Naren: It’s possible. Think about it, November 2021 was that time when Jerome Powell said, inflation is not transitory. If we had sold all your stocks on that day, anywhere in the world on that day, did you make money? So I think the statement that you know, we started to make in end of 2020, that the actual fund managers are central bankers and not any mutual fund manager in India, turned out to be a hundred per cent correct. And I can tell you the day Jerome Powell comes in TV and says, I am through with my raising rates. I can tell you that day you buy stocks anywhere in the world, you’re gonna make money. I can tell you that.
So the reality is that they are the people who are printed so much money. They are the people who created inflation. They are the people who are now removing the money and taking out inflation. They’re the people who will again create inflation and they’re again the people who are going to take up the market fire. So let’s recognize that and then don’t look at small people like us for that.
But having said that to recognize that they’re most important was very important for us and I would say that somewhere many people missed that they are very important. So for that, I would say that many of my colleagues in my firm helped in coming with that call because in 2020, for a brief period, we used to be very bearish and we saw the market doing well. Then we went back and me and my colleagues, we sat and understood that the reason that the market was going up was not due to any logic other than the central bankers printing money without any logic across the world, in the western world. And we said, no, we have to turn positive and we said, we have to explain to everyone that they are the people responsible for this bull market. And that call turned out to be right.
Bhuvan: No. If you were to judge our central bank on the same yardstick, do you think we have done much better be it in terms of managing the post-COVID crisis or post-2008 crisis or even the current phase, do you think our central bankers are doing a good job of navigating this you know, this troubled phase?
Naren: Absolutely. Just imagine that $200 billion that was bought by Reserve Bank in 2020 was such a brilliant decision that you’re sitting on $600 billion. I mean, that just made the country’s Forex reserves into a great situation. And, India has hardly done printing on the scale that the Fed did or the BOJ (Bank of Japan) did or what the European Central Bank did.
Unfortunately, we are in a global world. So, you know, even if you are the most cautious central bank, you get affected by everything that happens in the world. So even if we are, I’m managing other people’s money for Indian investors, we are affected by whatever the Fed does. So if you look at the way IT stocks have fallen, the IT stocks have fallen because NASDAQ has fallen. So, you know, these kinds of correlations come up and, these are things that we could have never believed and that is the challenge of investing at this point of time, because even if we are managing other people’s money in India, we are in a correlated world and that we have to understand.
Bhuvan: Makes sense. Picking up on that thread point about inflation being transitory.
The call that inflation was transitory turned out to be transitory and right now it’s looking scary because yesterday’s print in the US, hit a 40-year high. Europe and Japan, people used to call them the nursing homes of the global economy, because they’re filled with old people, even they have inflation at this point.
And India’s role, Indian inflation also seems a little scary and this inflation is one of the biggest, it can have a disproportionate impact on equity returns also. Are you concerned that we might be heading for this sort of this long period of inflation spiral? And if so, like in your own funds, in your own thinking, how are you preparing for that phase?
Naren: So, you know, if you look at whatever we’ve been communicating to people all the time, we’ve been saying that do asset allocation, I call it safe. We’ve been telling people do SIPs, do asset allocation by looking at categories like a balanced advantage, hybrid categories, an aggressive hybrid, conservative hybrid, multi-asset etc. Look at fixed income broadly, in that look much more like floating interest and, corporate bond and various other categories at this point of time and look at equity arbitrage and all those categories, we call it safe. And that’s what we’ve been trying to communicate to many people; stay safe by following this model.
And that’s what we’ve been trying to communicate to most people at this point of time, over the last six months. Through any engagement that we have done, you wouldn’t have seen us tell people, invest aggressively. You wouldn’t have seen that in any communication in the last one year across any channel, actually, because we said stay safe.
And so I think that continues what can change as I said, Ukraine war ending or Fed changing its view because as I said, central bank, the Jerome Powell is the biggest fund manager in the world. Not anyone in India.
Bhuvan: Makes sense. So you mentioned that 2021 was an aberration and like I said, I’m a millennial and I haven’t seen anything even closely to the level of craziness that we saw, and we saw the IPOs of all these new age companies, tech-first companies, so and so forth. Do you think this is the new normal, as in, we’ve entered a world where some of these new companies will have high burn first and then they’ll eventually find their market fit and then start generating revenues? Or that is some silly narrative that came out of this heady phase?
Naren: See, people will make losses, create customers, eventually have a good business model to make money and they’ll make money. But the problem is some of these companies think that the investor doesn’t need to make money and that is not going to happen.
Finally at the end of the day, the goal of an investor, I manage money at ICICI Prudential for other people. So, you know, you have to give us a good investment argument. So in the middle, what happens periodically people think that the other investor is a fool and that model can’t last. So as long as you are going to create a model which allows investors to make money and you create a good business model. So when I used to look at Google way back when Google started, I used to think, how will they make money? I never knew that they’ll become the world’s biggest internet advertising giant that they became. So what happens finally, you have to create a good business model.
Unfortunately in the middle, people change the model and come up with the wrong frameworks. But those frameworks can’t last, but finally, the market, in the long run, is rational. So many of these companies also will become rational. You must have seen a letter written by one of the famous venture capital entities to all its investee companies saying that now focus on cash flows, focus on logic, focus on business models, et cetera.
So that’s what will happen. So now when they come to us, also, we tell them, here is this company which came at this price, now see the price. So if you are not gonna rationally price the stock, we are not interested, go to someone else. And that is what will happen. And that’s why it’s good. I don’t see a problem yet.
Bhuvan: Got it. Now that also ties into this other thing you had mentioned which I found really funny is that corporate governance is cyclical in India. There is good corporate governance in a bull market and it goes for a toss in a bear marker. And recently, Nithin was talking about this in the office saying that compared to the nineties, or even eighties, corporate governance has gotten a lot better because we have a lot more eyes on the companies now, people are asking questions in the media, on social media, so on and so forth.
So from your vantage point do you think it has actually gotten better and, or on the other side just because there are so many techniques, so to speak that companies can use to obfuscate things has it actually gotten big because we’ve had several huge blow-ups in the last three-four years.
I think I remember Wirecard being the biggest in the last one year in Germany. So do you think net-net corporate governance has become better or there’s the trouble?
Naren: You have all kinds of companies, but you know, some of the new age companies which got listed and some of them which haven’t even got listed, I don’t think they understand corporate governance.
Some of the older groups in the country. They have had corporate governance and steadily they’re improving their corporate governance. So I think it’s very difficult for a company like us to say that you have a standard approach and is there a standard level, but if you look at the regulator, also, they have given us a role to do stewardship. So we also tell companies to do many things and we have seen good improvements in some of the suggestions that we have given them. Some of them have actually acted on it. So I would say that, you know, there is nothing like one way, but I would say some of the new age companies don’t understand it, including the few listed companies in the new age areas, they have done things which I don’t think they understand that they’re not respecting the views of the other investors.
So finally, in the long run, you know, if you don’t have good governance, your valuations are not going to improve. Whereas if you got good governance, valuations are going to improve and this is something people have realized and many of the older companies, which are listed, I have seen consistent improvement in governance standards in many of those companies.
But I think again, that requires a cycle. It takes some time for each of these companies to understand that, go through the motions, see the improvement and things improve, eventually.
Bhuvan: Got it, makes sense. Now speaking about these new age companies, it eventually ties back to this notion that, so when you are investing money in India, be it as an individual investor or as a fund manager, you’re essentially betting that our country is gonna do well and our economy is going to do well.
And right now it might sound like a silly question because people have a lot of pessimism every now and then, but what makes you optimistic that India is headed in the right direction because we seem to be sort of a beacon of hope in a very dreary world today?
Naren: I think many reasons, you know, see I happen to travel for example, to some parts of the world, in certain parts of the world, people are not willing to do hard work because their earlier generations have made too much money, so they’re not willing to work. Let’s say if you had to call people on a Saturday to work in some parts of the world, it’s impossible. And whereas today the urge to grow, the urge to do work, the urge to improve their own standard of living is much better in India for many, many people than what I see in many parts of the world.
I think, you know having grown up in Chennai and seeing how Bangalore changed from the eighties, which I have seen till now, I mean, the kind of change that the IT industry did to South India is just unbelievable. I grew up in the eighties, and every year I used to go to Bangalore. I can’t believe the eighties of Bangalore to what Bangalore has become today.
You know, in 2000 I left Chennai to come to Bombay thinking that brokering and every other financial services industry, the headquarters will be Bombay. But what Zerodha proved was that Bangalore became the headquarter of the largest retail broker in India. I would’ve never imagined that in ‘99, 2000, when I left Chennai to Bombay saying that Bombay is the mecca of financial services in India.
So I would say that’s how technology has changed India and I think technology will continue to change India. And I think that’s how things are the way technology is working at this point of time, even post COVID, the way between technology, internet, telecom, everything we have managed to work, even as a company, as an industry and in every way, I think there’s so many positives at this point of time, and that is the positive.
The way the COWIN app worked, the way vaccination could be done the way vaccination has shown up in our mobile phones. It is just unimaginable. I think most other countries haven’t managed what we have managed, the way we are able to use UPI in India, the way we are able to transfer money in India. Thanks to the good work done by NPCI and many other entities. It is just unimaginable. So there are so many reasons to be positive at this point of time. So I don’t think there is any reason to be negative.
Bhuvan: Got it. Now I want to pick your brains at length, as much as possible about something that you alluded to multiple times, this is asset allocation. So I was preparing for this conversation, I went and read pretty much everything that I could get my hands on about whatever you had said in the media, your talks, et cetera, and sort of in pretty much every single interaction one thing you make it a point to stress is the importance of asset allocation.
And sadly, I think this is something that a lot of people pay lip service to but very few people make sense about what exactly asset allocation is. So my question is twofold.
So one, how did you figure out asset allocation is what is important for investors because I agree it’s what drives most of the returns and two if somebody were to come and ask you what exactly asset allocation is, and they have absolutely no idea of what it is, how would you go about explaining it?
Naren: See, I thought I was a brilliant equity investor. Then when I lost money between 95 and 98, I realized the only loss was because of the leverage I took on equity in 1995. So after that, it was very clear that asset allocation is the way forward. Again in 2008, when people lost money in equity, they lost money at that point of time, the mutual fund industry was seen as an equity mutual fund industry. Not as an overall industry.
So the reason why we created the balanced advantage fund as a category and aggressive hybrid with equity and debt as a category or a multi-asset as a category, which involves all including equity, debt and gold, all these categories, what we realized was the money is made as long as you are invested in all the asset classes because once you are invested in all the asset classes, you’re sure to make money.
On the other end, if you overinvest in one category, particularly like there were lot of people who overinvested in real estate between 2010 and ‘13, they just missed the equity boom of 2013 to ‘22, if you look at it carefully. So what I realized was as long as people invest across asset classes, like in the multi-asset category or the balanced advantage category, the investor experience over the long period is so good and when the markets fall substantially in one asset class, you find that you have actually delivered such a good experience because you’ve not lost money. And that is the learning I got in 1997-98. Personally, in 2001 - ‘02, when I looked at all the stockbroking customers I had at that point of time, the same experience I saw. The same experience I saw in 2008 when I looked at all my mutual fund customers at that point of time.
But in 2020 March, because we had so much of money in two funds, balanced advantage and asset allocator fund of fund, which was invested in equity, debt and gold. The experience of the investors in these two products was so good because we invested 10,000 crores of public money in March 2020 in equity when the entire market was closed, the entire cities were closed. We invested public money in equity, and other people’s money in equity because the money was already with us, we only needed to sell the debt and invest in equity. We didn’t have to go to the investor to collect money. We couldn’t have done it because the whole world was closed at that point of time.
That’s when it became so clearly settled in my mind that if people do asset allocation they’ll get a good investment experience. Finally, the goal is to deliver decent investor experience and if you deliver a decent investor experience, over the 33 years that I’ve seen Sensex people have got a good experience and that is why it has become my mantra of ICICI Prudential and us to keep on conveying it to everyone.
Bhuvan: Got it. So one asset that I want to get your view on is gold because it’s probably one of the most controversial asset classes. Some people like Warren Buffet, Jason Zweig, they say it’s a useless shiny rock and there are some other people who think it’s an insurance against apocalypse, but you have a really interesting framing and you call it, you call gold residual asset class and I haven’t heard this framing from a lot of other people, but what does that mean, can you just expand on that?
Naren: See, when we find that equities costly, when we find debt is costly when we find everything costly, we tell people invest in gold and it exactly worked in that manner recently. We went completely wrong on gold in our multi-asset fund or passive multi-asset fund recently.
But out of the blue, you know what happened, customs duty on gold increased by 5%. So we didn’t make money on gold, we made money because of the 5% increase in customs duty.
So that is why I say it’s a residual asset class. So somehow when all the other asset classes are costly, you make money in gold. On the other hand, when all the asset classes are cheap, you don’t need to invest in gold. The other asset classes are better because the other asset classes are both interest income, or dividend or something like that you get in the other asset classes. So there’s no need for you to invest in gold. So that’s why we call it a residual asset class.
Bhuvan: Got it, and you guys also manage multiple international funds. I think you guys had one of the oldest international funds also. How do you see the role of international asset allocation? Because this is one confusing aspect and international investing really took off only in the last, let’s say four or five years when once the US rally started. So how do you view the role of international in asset allocation?
Naren: Very interesting. In 2012, we launched the US fund.
Naren: And I told everyone to invest in the US because from a contrarian framework, 12 years of zero return, I was very positive. No money came. In the last few years, everyone launched international funds.
I used to tell them now, after such super performance, you people are launching. So our view is that it fits into an asset allocation framework, so we created a ICICI Prudential passive multi-asset, which involves in all the countries, we invest in many of the ETFs. But we believe it’s only an asset allocation call and you should invest in all the countries, but people invest, you know, once they see performance.
So if NASDAQ does very well, they go and invest in NASDAQ. I don’t think that framework will work. That’s why we’ve created this ICICI Prudential passive multi-asset, which is a very interesting kind of framework for people to consider because we are invested in all the countries in different types of ETFs and that’s a kind of product, because we are a believer as you know, in asset allocation.
Bhuvan: Got it. So just picking up on that point for a long time, you know, international diversification meant just investing in the US because most of the funds were the US. So do you think that approach still holds?
Because, so the argument is that, about 40% of revenues on S&P comes from outside the US, which means just by investing in the US, you’re essentially getting global revenues. But if you look at, look across the world today, Europe is dead cheap and if I were to make a very, very dumb application of your contrarian approach, Japan looks very, very appealing because it’s trading almost close to 11 PE, Europe looks very, very appealing.
So is this the right frame of thinking in the sense that should people also look apart from the US or sticking to the US is still okay for most people?
Naren: No, no. You should look across and that is a framework we believe in and, that is a framework we are looking using in ICICI Prudential passive multi-asset fund.
Bhuvan: But the problem with these two countries, especially Europe, and this thing is, again, you go for decades without doing nothing.
Naren: You don’t ignore the US.
Bhuvan: Got it.
Naren: You invest everywhere.
Bhuvan: Got it. But, do you think like the other point about asset allocation is that there’s this long-running debate between static versus dynamic asset allocation and you guys dynamically switch. So should that call be left to the fund managers or should investors also maybe think about making allocation decisions at the margin? Because most people really aren’t equipped to do that. If, you look at the performance of most retail investors.
Naren: See my belief is simple here and that’s the belief we have in ICICI Prudential, 5% of the people are very good in investing. They can do everything that they want. The remaining 95% should leave it to others because the 5% know they will not make mistakes, like NASDAQ has done very well for eight years now, after eight years of performance, we’ll now invest in NASDAQ. They’ll invest in NASDAQ in 2012. So the challenges for that 5%, you don’t need the decision to be done by ICICI Prudential, they should do everything on their own. The 95% should leave it to someone, like ICICI Prudential and that is our belief because I don’t think everyone can take these decisions in a systematic way, but some of them can take decisions in a phenomenal way. And for them, they don’t need, ICICI Prudential.
Bhuvan: You guys have a very, very long and phenomenal track record of managing debt funds and you guys have also pretty much sidestepped all the major blowups in the past. Let’s say, call it a decade. But going back to the previous point you made about asset allocation being important, people focus too much on equity but don’t really understand debt at all. So they either go, you know, pick some fund, which has done well. For example, they would’ve picked Guild funds last year when you know, the returns were phenomenal for the past three years.
Is there any framework in your mind as to how retail investors should think about making debt allocations, which makes it really, really simple so that they don’t have to overthink?
Naren: See there also we created in the dynamic bond category we have a fund which we will not name, but that kind of category is the kind of category investors should do. It’s just like the balanced advantage category in debt, which people should look at because then you don’t need to bother about which category is doing well, which category is doing badly. The moment people start choosing guilt as a category or something else as a category, then it’s a problem. But once you choose a dynamic bond as a category, it becomes much, much easier for investors to say, let’s invest in that category and forget about it. And that is how we would prefer at all points of time.
Bhuvan: Got it. So do you have any sort of frameworks or mental models for investors to consider for asset allocation?
Naren: Yes, we have created, we spent a lot of time in creating the framework in that product but I can’t name that product due to compliance reasons.
Bhuvan: Right. Got it. No, no. So, I remember you had this ABCDGEF framework for investors to consider. You also similarly stress the importance of considering hybrid funds, because since they’re one size fits approaches, it makes it easier for investors. Are there any other sort of rules of thumb or other pointers you would give in terms of asset allocation?
Naren: Basically we have used safety, liquidity, and return as the framework in debt. So first we have always considered safety then liquidity and then return. Because of the way Indian investors think of debt we have always used this framework, but we believe that there are a very interesting approaches in debt, but people can’t look at, you know, there are products which can do very well in a short period of time, but then people have to look, what is the reason for the excess return at all points of time, what are the risk taken by the product at various points of time, and then invest in that fund. Because there is nothing like a miracle, which is possible in debt. So if there’s extreme, excess return, the excess return comes out of excess risk and that is something which people should be aware about.
Bhuvan: Got it. So one of the more useful and interesting things that you guys publish in your factsheet are these equity and debt valuation indexes, and, in the equity evaluation index, you guys use simple measures like market PE, market cap with GDP ratio, etc. But the problem is people often tend to use these metrics in isolation. So for example, one of the favourite things for retail investors is time the market based on PE, which goes horribly wrong. So what’s the right way for people to use these metrics? And should they always use a composite metric, like combining multiple metrics or how should they think about this?
Naren: See, one of the lessons we learned in investing is don’t use one metric. If you use one metric, there can be some statistical aberration which can create a problem. So if you use a combined metric, what happens is, the chance of something going wrong is much lower. And that is how we see it and that is why we have always used combined metrics.
The combined metrics eliminates the problem out of one single metric, which happens and that is why, if you look at the experience that we have had is also much, much better. And that’s what we’ve seen.
Bhuvan: Got it. I wanna pick your brains on the asset management industry a little bit. So if you were to look today, how do you see this? Because today we have over 40 AMCs and everybody pretty much offers all the other products.
Do you think it makes it hard for asset managers to communicate what exactly their value is? Because they have everything for everyone, or on the other hand, it’s a trade-off by being very small and boutique. So, how do you think about the framework, sorry, trade-off?
Naren: See, I think the regulator has done a very good job from the day I’ve joined, 2004 to 2022, I’ve seen a phenomenal work done by the regulator in ensuring that the product works very well for the customer and the kind of products that we have managed to launch over a period of time gives the asset management industry a huge leg up over a period of time.
So I think the industry is in a very good position thanks to the ability of NPCI, which has made remittances easy, the technology, the apps that are possible, the good work done by people like you in Coin, etc, all these things have made this industry, what it is at this point of time.
And I believe that as long as investors use systems which are good for long-term investing. Like asset allocation, I think the outlook for the industry is good and people don’t get into, you know, saying I’ll invest only in the highest risk, highest return fund. That is the challenge that we worry about. Of course, there is a proliferation of products, but that’s part of the job that my colleagues have in creating a brand for our products and that is the job my colleagues have.
Bhuvan: Got it, so if you were to use that Charlie Munger framework of always invert and think about what could potentially disrupt today’s asset managers, do you have any thoughts on that?
Naren: Yeah, I think the AUM to GDP ratio is so low that forget disruption, we have to scale up first, and I think right now the disruption is not going to happen to the industry. I think the asset management industry is one of the most efficient investor-oriented financial services industries in this country.
So I believe that it is not the industry which is going to get disrupted. I think the scope for this industry to grow is significant at this point of time and that too, thanks to people like Coin. So I believe that the opportunity is coming thanks to people like Coin focusing on it and if that did not happen, I don’t think it would be as easy it is to scale for us.
Bhuvan: Got it. I wanna ask you a few personal questions about your own investing philosophy. So how do you personally invest your own money?
Naren: Basically I’ve been investing in mutual funds over a period of time since I became CIO and you know, I look for again, I have become much more risk averse as I become older and I choose asset allocation funds for investing my money at this point of time. And, I think at the same time if somebody, if I find a scenario where the market tanks or something like that, then I would suddenly get interested in looking at contrarian opportunity at that point of time.
So that is how I look at it. But otherwise, today where the markets are not at the cheapest point at this point of time, I’m very much fond of set allocation strategies. And, that is how I’m looking at this point of time.
Bhuvan: Good. Just two final questions if you’ll bear with us. So a lot of people look to get into finance, but I have no clue know how to go about it. So if you were to look back on your own experience and if you were to give advice to people, now who are looking into getting into this industry? What would that be?
Naren: Yeah. I tell people, leave a career aside and first focus on your personal finance through your entire life. Whether you are going to take up a career in finance or not don’t miss looking after your personal finances. I believe that in South India, particularly lot of people don’t focus on their finances, they’re too obsessed about education. They are not obsessed about finances. And this is what I learned from my Chennai days that the whole family infrastructure is focused on education, not on looking after finances.
So I believe that whether you are interested in a career in finance or not at least be focused on looking after your finances, personal finances, and there don’t always recognize that when there is greed in the market, you be fearful and when there is fear in the market, you be greedy. And that is how I look at it and that is most important.
As far as a career in finances concerned. I believe that careers in technology are far superior if you ask me for more number of people, I think the way technology has moved over a period of time is phenomenal and careers in finance has been fewer in terms of numbers. And, that is how I see it.
Bhuvan: Got it. So the final question is basically, you know, if you have any book recommendations for investors, etc.
Naren: See basically I like Morgan Housel’s book. He’s written a book, which is I don’t remember the name, you just going to Morgan Housel, he’s written only one book, The Psychology of Money. Clearly, I would say that for your life, I would tell you to read Oaktree Capital, Howard Marks memos, clearly on a regular basis, I will tell you to read them.
And I mean there’s a book written called The Checklist Manifesto. That is something I would clearly tell you to read.
But you know, what I’ve learned in investing is, the reading part of it is not a problem practicing part of it is the problem. And, the learning is that in March 2020 people froze. So in the month where at ICICI Prudential we bought 10,000 crores of equity. How many people froze? So the reality what I would say is that it’s very critical that people don’t freeze at the wrong time. And, so the reading part of it is very easy, practising part of it is very tough and I would say that the books are very simple. It is there is a simple book on behavioural investing written by James Montier, small book. That’s also very good.
So these are the books I’ll recommend, but I repeat, it’s not the reading the books which is a problem. It is a practising, which is a problem. And for that, I would say it is just temperament, temperament, and temperament.
So there have to be times when you have to be greedy. There have to be times when you have to be fearful, if you’re greedy at the wrong time and if you’re fearful at the wrong time, you lose money. On the other hand, if you’re greedy at the right time, and if you’re fearful at the right time, you make huge money. This is the learnings from my 33 years of watching markets after my work and even before that, I watched markets.
Bhuvan: Thank you so much, Sir. This was an absolute education for all of us. Thank you so much for taking the time for this.
Naren: Thank you. Thank you, Bhuvanesh.
We hope you enjoyed this absolutely brilliant conversation as much as we did recording it.
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