Exit stocks which are overvalued. This seemingly simple strategy has seen three of Devalkar’s funds beating the benchmark
You have made a significant transition from being an equity and credit analyst to a fund manager. How different are these two roles?
The role of a credit analyst involves predicting free cash flow of a business to evaluate its liquidity and solvency over tenor of credit exposure. For such analysis one needs to understand the underlying businesses and its sensitivity to changes in the external environment. The businesses with better moat (pricing power or cost advantage) tend to generate stable cash flows. In the role of an equity analyst, the additional focus is on identifying businesses which benefit from structural changes in the external environment, be it economic, demographic, etc, which is essential for capital appreciation. I believe, the role of a fund manager is an extension of what one does as an equity analyst, the difference being that one needs to evaluate a wide range of businesses to construct the best possible portfolio. The investment team at BNP Paribas Mutual Fund, which has a cumulative experience of about 55 years, generates the best ideas for our investment universe, from which I select companies to invest in the portfolios, depending upon the fund’s mandate.
What’s your brief in managing the three very different funds: BNP Paribas Equity, Dividend Yield and Mid-cap?
All the three funds have different investment mandates. But, at a broad level, our strategy is to focus on high-growth businesses and the best companies within this universe for long-term capital appreciation. Each fund has a different investment filter. In the case of BNPP Equity fund, there is a preference for large- and mid-capitalisation companies with some sector bias. For BNPP Mid-cap, we adopt a bottom up stock selection when investing in mid- and small-cap companies. The stock selection is in companies that are leaders in emerging sectors or should be challenger or consolidator in large sectors. For BNPP Dividend Yield, the focus is on companies that can pay dividend while maintaining growth.
Compared to equity funds, management of a tax fund requires different sets of principles. So, how is the management of BNP Paribas Tax Advantage Plan different and what all do you keep in mind while managing it?
The companies selected in BNPP Tax Advantage plan do not have stringent market capitalisation restrictions and it can invest in types of companies across the market capitalisation. Hence, compared to BNPP Equity, the tax advantage fund is more diversified but the philosophy remains the same — to invest in companies with long-term prospects.
Similarly, how do you balance managing the Dividend Yield fund and the Mid-cap fund? They too require a different approach.
Our investment process involves creation of an investment universe, which includes selecting best companies in their respective sectors. Next, we filter companies depending on the investment mandate of the fund scheme, which could be dividend yield, mid-cap etc. While BNPP Dividend Yield fund may have companies from across market capitalisation, the free cash flow generation is a key criteria in addition to strong growth when investing in this fund. Likewise, in the case of BNPP Mid-cap fund, investments are in strong growth companies with mid- to small-capitalisation which are future leaders and within for further business expansion.
What has lead to positive returns in your three funds — Equity, Mid-cap and Tax Advantage over the past 1-year while the benchmark and other funds are in red?
In the past one year, we have faced several factors that have added to anxiety such as high inflation, high interest rates and slowdown in policy. This made us rethink our investment strategy to address the impact of these factors. Stock selection was important and we looked for companies with decent pricing power which could maintain their margins. We stayed away from sectors affected by the policy slowdown because companies in such sectors lacked the necessary investment opportunities. And finally, we stayed off companies that were highly leveraged given the high interest rates. We also invest cash diligently which has played out well in the performance of these funds.
How do you decide about the cash holdings? The cash levels of your funds fluctuate regularly. What reason do you attribute to this?
As far as cash is concerned, we don’t take a view on cash level. We book profits whenever we believe the stock is overvalued and remain in cash till the time we get our next best idea.
What’s your outlook for equity markets?
We are positive that the markets will go up in the future. A few incidents in recent times indicate the optimism. First, oil price is on a decline, which will stay given the global economic scenario. And, though inflation has not come down as much as one would have wanted it to, it has peaked and has been factored in. As for the interest rates, RBI has not yet loosened them up but it is clear that there will be no further tightening as well. We are looking for a revival in the investment cycle with the policy bottlenecks going away and easing of supply gap. Even now, the valuations are attractive, especially in dollar terms. Though, a depreciating rupee is of concern, it still benefits the export business. All these factors make us believe that markets may go up from here on.
How do you view the investor sentiment as of now?
At present, investor confidence is low. But, it takes a few policy initiatives to change the mood. Investor sentiment would follow once government initiatives start coming in. So, if there are large structural changes announced by the government and steps taken to boost the investors’ confidence, we think investors will again start equity investing.
What are the key things that you will avoid and emphasise in the portfolio of your equity funds?
Just the way we have an approach to stock selection, we also follow a broad theme to avoid certain stocks. We avoid weak businesses and companies which have proved to be mediocre in their respective fields. We also avoid businesses with poor corporate governance. It goes without saying that we keep away from companies which are highly leveraged, with no signs of improvement in underlying businesses.
Portfolio emphasis depends on the investment mandate of the specific fund scheme. For instance, BNPP Equity Fund will invest in growth companies within the large-capitalised stocks. Overall, companies with secular growth and a strong moat will form the bedrock in selecting companies for equity portfolios.