Will mutual funds focused on consumption lag behind during a broad-based market recovery?

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After a great run, consumption-focused thematic mutual funds (MFs) have skidded in recent times. Over last three months, consumption funds gave 7.8 percent returns on an average compared to 13.74 percent returns delivered by multi-cap schemes, as per Value Research data.

These schemes have given good returns in the past. And they are less volatile than many other themes that fund houses invest in. Will consumption funds lag behind during a broader market recovery?

COVID-19 blow and a broader market recovery

Consumption theme usually covers consumer-facing companies. They produce goods and services that you directly use. Cars, white goods, air-conditioners and televisions are discretionary; they are not essential. Daily-use items such as soaps, detergents, eatables and so on are non-discretionary.

Due to a slowdown globally due to COVID-19, consumers cut back on their spending, at least initially. Companies that depended on discretionary spends faced a slowdown. Sectors such as hotels, travel and movie exhibition are still suffering from restrictions. Customers continued to buy essential items, so FMCGs continued to do well.

Ankit Jain, Fund Manager-Equity, Mirae Asset Investment Managers (India) says, “During the last one year, consumption sectors lagged in earnings growth compared to other segments in the economy. But across (market) cycles, the fundamental performance of consumption sectors has been consistent.”

Also, equity markets have been seeing a broader recovery. “Compared to a few high-quality consumption stocks moving up in 2018-2019, the market saw a broad-based rally in 2020 and sector rotation was seen, as investors moved from richly valued consumption stocks to attractively valued cyclical stocks,” says Deepak Chhabria, founder and managing director of Axiom Financial Service. He anticipates a phase of consolidation in consumption stocks during the near future.

Will a correction persist for long?

Barring hotels and multiplexes, most other businesses in the consumption space have been recovering as the economy springs back to normal. Many of the preferred consumer bets in 2018-2019, such as HUL, Nestle, and Britannia are good quality businesses and have enjoyed rich valuations. There is a fair chance that these stocks may not nosedive, but may not move much for a prolonged period of time – ‘time correction’ as they term it in market parlance.

Nimesh Chandan, Head, Investments, Equities, Canara Robeco Mutual Fund says, “Investments in the consumption theme can be rewarding for long-term investors.”

Over last nine years, the Nifty India Consumption TRI has given 14.84 percent returns. The Nifty 50 TRI managed 13.33 percent. “Consumption themed companies offer sustainable growth, strong balance sheets, healthy cashflows, high return on equity,” says Chandan.

Falling interest rates have made loans cheaper – sectors such as real estate, automobile benefitted from rising sales.

If interest rates rise, will that affect consumption? “If interest rates move up slowly due to economic recovery, it should not hurt demand and thereby the consumption theme much,” Ravi Kumar TV, Founder of Gaining Ground Investment Services. As more individuals become confident of their cashflows after stability returns to job markets with the revival in the economy, there is a fair chance that consumption will catch up on borrowed money despite rising interest rates.

Jain says that that the increased preference for premium products with rising per capita income remains intact; hence, the theme looks good, despite the recent underperformance.

What should you do?

Investors should not ignore the additional risks that come with thematic investing.

Chhabria says, “Investors need to get both the entry and exit right in the case of theme funds.” If you cannot get them right, you would be better off investing in diversified equity fund.

Ravi Kumar suggests international MFs if you really wish to get the benefit of consumption investing.

An investment in an index fund such as Motilal Oswal S&P500 Index Fund or an Invesco Global Consumer Trends Consumer Fund of Fund may compliment your consumption investing.

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