Non-Performing Assets (NPAs) in the Indian banking system continue to remain at precariously high levels. As per the RBI estimates, Gross NPA (GNPA) ratio of Indian banks rose to 9.6% in March 2017 as against the 9.2% recorded in September 2016. The stressed advances ratio (denoting NPAs + restructured assets + write offs—cooled off a bit from 12.3% to 12.0% between September 2016 and March 2017. However, even at this stage, it appears too high.

Loan growth has languished to a multi-decade low and banks seem to have lost prominence, albeit temporarily. As per the RBI figures, the share of banks in the total outstanding credit in the economy has shrunk from 50% in the Financial Year (FY) 2015-16 to about 38% in FY 2016-17. The contribution of the major corporate borrowers is 87% (terribly high).

If your conclusion is, “Banks are in bad shape, and they don’t have a bright future.”, and you have ruled out any possibility of committing money to financial stocks, be ready to be a lone voyager in the dark sea.

Market participants are yet banking on banks. Majority of Domestic Institutional Investors (DIIs) and Foreign Institutional Investors (FIIs) are gung ho on banking and financial stocks.

Are you shocked to know this?

Please don’t be.

They are leaving the past behind, and probably betting on the future.

Mutual funds too, are investing aggressively in the financial stocks. The integrated exposure of mutual fund industry to financial stocks was to the tune of Rs 1.61 lakh crore as on June 30, 2017. Last year, on the same day, their exposure stood at Rs 1.03 lakh crore.

So, are they exposing you to an elevated level of risk?

Well, let’s take the effort  to dwell deeper into the numbers…
 

Portfolio holdings (Sector -wise break-up)

	Exposure of mutual funds as a % of total assets
	Jun-17	Jun-16
Bank - Private	6.21	5.85
Bank - Public	1.61	1.40
Finance - Housing	0.94	0.65
Finance - Investment	0.24	0.20
Finance - NBFC	1.13	1.00
Finance - Others	0.19	0.20
Finance - Stock Broking	0.07	0.09
Total	10.38	9.39

(Source: ACE MF, PersonalFN Research)
The table above reveals the exposure of mutual funds as a percentage of total assets that hasn’t changed much over the last one year. However, the increase in their absolute exposure is largely on account of incremental inflows in the equity-oriented schemes, mainly through mutual fund SIPs (Systematic Investment Plans). Similarly, the rise in the value of financial stocks has also contributed to the increase in absolute exposure of mutual funds.

“Oh, but financial stocks have a bleak future given the pathetic NPA scenario is refusing to abate.” This seems to be a half-baked notion.

Cutting through the noise, mutual fund houses are demonstrating their professional approach and astute wisdom. Revisit the table and look at the exposure of Public Sector Banks (PSBs) carefully. It’s at a sub-2% level. And if you don’t include the country’s largest bank along with its subsidiaries; the exposure of mutual funds to PSBs will fall further. Please don’t forget, PSBs contribute significantly to the overall stress in the banking system. After all, they are the prime corporate lenders. Against this, a majority of private sector banks lend to retail borrowers, a relatively less risky customers for banks, compared to the corporate borrowers.

Furhter, Non-Banking Finance Companies (NBFCs) and Housing Finance Companies (HFCs) have become favourite with mutual fund houses. ‘Housing finance’ is one of the safest portfolios. And, select NBFCs are playing a key role in making good for shortfall of capital caused by the impairing banks, especially the PSBs. Some NBFCs have an impeccable track record, and fund managers might have seen merit in relying on them.

Now, do you want to change your opinion about your fund manager, if at all you doubted his/her capabilities?

And if you further want to know why exposure of mutual fund schemes to financial stocks is rising consistently, the answer surfaces in their investment mandate.

Fund managers have to benchmark their performance against a respective index, which could be Nifty 50, Nifty 200, or Nifty 500 among others.
  Financials weigh heavily

Index	Weightage of financial stocks (in %)
Nifty 50	35.98
Nifty 200	33.06
Nifty 500	31.53

(Source: ACE MF, PersonalFN Research)

Look at table above, it is evident that financial stocks can’t be ignored if you want your portfolio to perform in line with any of these indices.  

So be it a largecap fund, a midcap fund, a smallcap fund or a flexi cap fund, the fund manager has to keep in mind the weight of financial stocks in the index.  

A few other vital points to consider…

Unless the financial sector performs well, it’s unlikely for the  Indian economy to do well. So, it’s only logical on the part of fund managers to invest mindfully in financial stocks.

Valuations in the PSBs are at a multi-year low. In other words, the worst might be already in the stock prices. And going forward, the slightest encouraging news may spark off massive rallies in their stock prices.

On the other hand, valuations are super-rich in case of private sector banks, but the performance of few players has been mixed.  A diligent fund manager won’t generalise anything here either and would assess each balance sheet carefully before deploying your hard-earned money. 

So, be careful. Some newspapers, journals, blogs are shallowly reporting that exposure of mutual funds to banking stocks is rising and creating doubts in the minds of readers unnecessarily.

What looks obvious often requires careful inspection.

So, why stick your neck out.

Leave the task of stock selection to professional fund managers.

And don’t worry about the market levels on a daily basis. You of course ought to be a bit careful and invest smartly given that the S&P BSE Sensex is on a high. Thus, in the interest of your long-term financial wellbeing, it’s best that you wisely structure and review your existing portfolio.

If you’re unsure where to invest fresh investible surplus currently, to strike the correct risk-return trade-off we recommend adopt a ‘core and satellite approach’ to investing. Here are 6 benefits of ‘core and satellite approach’:
 

• Facilitates optimal diversification;
• Reduces the risk to your portfolio;
• Enables you to benefit from a variety of investment strategies;
• Aims to create wealth cushioning the downside;
• Offers the potential to outperform the market; and
• Reduces the need for constant churning of your entire portfolio 

‘Core and satellite’ investing is a time-tested strategic way to structure and/or restructure your investment portfolio. Your ‘core portfolio’ should consist of large-cap, multi-cap, and value style funds, while the ‘satellite portfolio’ should include funds from the mid-and-small cap category and opportunities style funds. 

But what matters the most is the art of astutely structuring the portfolio by assigning weightages to each category of mutual funds and the schemes you select for the portfolio. 

Moreover, with change in market outlook the allocation/weightage to each of the schemes, especially in the satellite portfolio, need to change. 

Keep in mind: Constructing a portfolio with a stable core of long-term investments and a periphery of more specialist or shorter-term holdings can help to deliver the benefits of asset allocation and offer the potential to outperform the market. The satellite portfolio provides the opportunity to support the core by taking active calls determined by extensive research.

So, PersonalFN offers you a great opportunity, if you’re looking for “high investment gains at relatively moderate risk”. Based on the ‘core and satellite’ approach to investing, here’s PersonalFN’s latest exclusive report: The Strategic Funds Portfolio For 2025. In this report PersonalFN will provide you with a readymade portfolio of its top recommended equity mutual funds schemes for 2025 that have the ability to generate lucrative returns in the long run. We highly recommend you to opt for The Strategic Funds Portfolio For 2025. 

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