HDFC Standard Life Insurance

1

February 2014
Market Update
Economic data-
The IIP contracted for a second consecutive month in November as it came in at -2.1%
after the -1.6% print in the previous month. Given the favorable base and improved
trends in the core sector in November, this contraction was a surprise. Sectorally,
manufacturing continued to contract and on a used based classification, capital goods
improved but consumer durables fell. A lackluster Nov IIP print translates into a decline
of 0.2% in the fiscal thus far vs. last years +1.3% over the same period. January
manufacturing PMI came in at 51.4, an improvement from the previous print of 50.7.
After months of trending up, inflation abated in Dec as both WPI and CPI reported a
softening in numbers led by a significant fall in vegetable prices. WPI was at 6.2%, vs
7.5% in Nov; but core inflation was marginally up from 2.7% to 2.8%. The CPI print for
Dec was 9.9%, a sharp fall from 11.2% record high in Nov.
The much awaited Urjit Patel committee report came out in January, with key
recommendations including selection of CPI as the nominal anchor and setting of
inflation target at 4% with a +/-2% band over a 2 year time frame. In the backdrop of this,
the RBI unexpectedly hiked rates by 25bps in its 28th January policy meet as against
street expectations of unchanged rates.
Equity markets
Markets- Indian markets had a weak start to the new year as the benchmark Nifty lost ~3.4% and
BSE100 lost ~4% over the month. Sentiments were mostly dominated by macro releases in the
run up to the RBI policy meet as well as by the quarterly earnings season. While headline
inflation numbers appeared to have abated somewhat in December, the core numbers saw a
marginal uptick. Against the backdrop of the Urjit Patel Committee report, the RBI surprised
markets with a 25bps rate hike vs expectations of unchanged rates. Mid cap and small cap stocks
fared worse than the broader market with the mid cap index falling 6% in the month. FIIs and
mutual funds both were net sellers to the tune of Rs.1.4bn and Rs.25.2bn respectively. Sectors
that outperformed were the defensives i.e IT, pharma and FMCG. Sectors that underperformed
were realty, utilities, banking, metals, capital goods, auto and oil & gas.
Fund/ Indices 31 January
2013
31 January
2014
31 December
2013
1
Month
Return
(%)
1 Year
Return
(%)
3
Years
CAG
Return
(%)
5
Years
CAG
Return
(%)
Growth Life 87.4 82.9 86.9 -4.5 -5.1 1.2 17.5
Growth Life II 10.2 9.6 10.1 -4.5 -5.6 1.0 16.5
Growth Pension 83.9 79.6 83.5 -4.6 -5.1 1.2 17.6
Growth Pension II 19.4 18.3 19.2 -4.5 -5.6 0.8 17.1
Blue Chip Wealth
Builder
11.2 10.6 11.1 -4.3 -5.6 1.6 -
Opportunities
Wealth Builder
12.2 10.6 11.3 -6.1 -13.1 -2.0 -
BSE100 Index 6091.5 6071.0 6326.7 -4.0 -0.3 3.0 16.9
CNXMidcap 8363.7 7540.0 8071.3 -6.6 -9.8 -1.6 17.6
Re/US$ 53.2 62.7 61.8 1.4 17.7 10.9 5.1
Gold ($/oz) 1663.7 1244.6 1205.7 3.2 -25.2 -2.3 6.0
Oil Brent ($/bbl) 116.5 107.2 110.8 -3.3 -8.0 2.4 19.0

HDFC Standard Life Insurance
2

Fund Positioning-
Owerweight Sectors-Banks, Cement, Pharma, Energy, Telecom, Capital goods, Metals
Underweight Sectors-Auto, FMCG, IT, NBFCs, Power, Realty

Strategy- As stated in the last note, our strategy now is to have a portfolio where we continue our
holdings in select cyclical & midcaps and at the same time increase our weight incrementally in
defensive sectors. This strategy has been working well for us since September and we have been
outperforming. In January however the Growth series & Bluechip fund underperformed.
Opportunities continued the outperformance.
The underperformance in January was led by the cyclical and midcaps underperforming on
account of the EM (Emerging Markets) crisis. Our underperformance was not high as we had
reasonable weights in defensive sectors.
We have reviewed our strategy and plan to stick to our earlier strategy. We believe that India has
fared quite well during the crisis and hence a panic like situation is unlikely. Moreover the other
EMs too are stabilizing. Hence, we will not go fully defensive. However, we are monitoring the
situation on an ongoing basis and will take appropriate actions if we see the situation
deteriorating.

Outlook- Market sentiments were dominated primarily by emerging markets currency crisis,
disappointing growth data out of China, continued QE tapering by the US Fed and December
quarter corporate earnings.
December quarter earnings reported so-far have been a mixed bag wherein global sectors /
companies have fared well, while local sectors have disappointed.
The RBIs efforts over the past three months to boost forex reserves and the surprise rate hike has
helped India weather the US Feds tapering storm better than other emerging markets. RBI is
targeting 8% CPI by March 2015. Our estimates suggest some easing in CPI inflation over the
next few months from the current 9.9%, which would at least ensure that there may not be further
rate hikes, which is a positive development in our view.
We believe that as bumper crop harvest this year, inflations should start moderating fast which
should bode well for the 2014 calendar year. Also since general election is expected in
April/May, we expect election outcome to decide the future course of the market in the medium
term. Also real impact of roll back in stimulus will be the key to access the direction of FII flows
in the markets. We maintain a positive bias on the market going forward. In the short term there
could be a pre-election rally if global conditions stabilize.
The market valuations are attractive at about 12.6x FY15 estimated earnings for SENSEX, which
are building in about 16% earnings growth in FY15.

HDFC Standard Life Insurance
3

February 2014
Debt Markets
Previous Month January was a month of
two halves as far as market moves were
concerned. The initial part of the month saw a
substantial easing in bond yields. Higher
demand from long term investors, a surprising
fall in inflation readings, deferment of a GSec
auction and robust FII inflows in the debt
market led to yields falling all the way to
8.48% in the initial part of the month. The
sharp fall in inflation, though led by fall in
food prices, increased expectations of a cut in
interest rates in the near future. However,
yields retraced the entire move by the end of
the month. The Patel committee report and the
surprise rate hike by RBI in its Monetary
policy saw yields firm up again. A sudden
spike in concerns over EM currencies saw FII
flows turn negative and bond yields firmed up
further. The surprise rate hike also pushed up
yields at the short end as rate cut expectations
diminished. The 10-year benchmark Government security ended the month at 8.78%, slightly
lower than the 8.82% levels at the end of last month.
Fund Performance-
(as on 31-Jan-2014)
Funds 1-month 1-year 3-years 5-years
Secured Managed Fund - Life 0.62% 3.39% 7.83% 7.17%
Secured Managed Fund - Pension 0.63% 3.37% 7.82% 7.16%
Secured Managed Fund - Life - II 0.59% 3.05% 7.83% 6.95%
Secured Managed Fund - Pension - II 0.58% 3.05% 7.85% 7.09%
Income Wealth Builder Fund 0.63% 3.15% 8.06% -




Benchmark - CRISIL Composite Debt Fund Index 0.78% 3.50% 6.96% 5.97%

The bond funds had a minor under-performance wrt the index during last month. The funds had
moved to a defensive positioning with a reduction in duration during the month as yields had
started reversing from the lows of the month. The surprise rate hike by RBI pushed up the yields
at the short end of the curve, where we had higher positions and impacted our performance.

Outlook Though the RBI has not yet formally accepted and implemented the recommendations
of the Urjit Patel committee, the recommendations seem to have been implicitly internalized by
RBI and provide the framework for estimating RBIs policy responses. Hence, though the growth
trends are weak, and non-food manufactured items inflation continues to be benign, the markets
do not expect RBI to ease its stance on policy rates any time soon. CPI inflation continues to be at
elevated levels, the fall in food prices notwithstanding. We would need to see a meaningful and
sustainable fall in inflation to expect any rate cuts from RBI.

HDFC Standard Life Insurance
4

Hence, one key driver for long term bond yields does not figure in the market expectations. The
only factor that is likely to drive yields at the long end is the demand-supply balance of GSecs.
The Government has completed the current years borrowing with an under-shoot of the budgeted
amount by Rs 150 bn. However, this positive move has already been priced in. The markets are
now looking towards the next years borrowing requirement for further cues. The picture for next
year is quite daunting. Even of the Government does manage to contain its deficit around 4.2% of
GDP, as required under the FRBM Act, the gross supply to the market is likely to be around Rs
6300 bn, higher than the Rs 5650 bn in the current year.
At the shorter end, again rate expectations are absent. The markets are not pricing in any rate
moves at the current juncture. Liquidity, the other factor that drives the short end, is expected to
be tight in the remaining two months in the year. Thereafter, we could see a substantial easing in
liquidity as Government spending picks up and short end yields could ease from the current
levels. Therefore, the short end of the curve looks more attractive than the longer end on a risk-
return framework.
However, across all segments of the curve we expect range-bound trading over the coming two
months, with some caution likely to set in as we approach the start of the next year.
Strategy- The bond funds have curtailed their duration by reducing the Corporate bond positions
at the long end of the curve. The credit spreads are quite narrow, and we do not expect any further
narrowing in the spreads. Over the next two months, we intend to reduce duration further
opportunistically by reducing long GSecs exposure whenever the market levels are appropriate.
At the short end of the curve, we do not see significant movement in the near term. The returns
are likely to pick up only after the liquidity in the system sees sustained easing, which takes the
range of overnight rates lower i.e. between the reverse repo and repo levels. This will be 100 bps
lower from the current range of overnight rates between the Repo and MSF levels. We expect that
overnight levels will ease once the current financial year is past.