What are you fearful about in today's market?
Let me start off by saying that we are quite positive on Indian market.
Global volatility is a concern in the near term. Any reduction in global risk appetite as a result of sub-prime crisis in US, can affect India in the near-term. If the US markets drops, it is likely that the Indian markets will mirror the global moves. But the direct impact of the sub-prime crisis on Indian GDP growth appears limited. In the near term, global markets will move in tandem but a few months down the line that will not be the case. The infrastructure spending, capital expenditure, and consumption boom are the factors driving growth of the Indian market. A runaway movement in crude prices can act like a tax on the Indian economy. Of course, earnings should not disappoint.
In terms of political uncertainty, we will, in any case, head to the polls in 18 months. If polls are announced earlier, the markets might react in a knee-jerk fashion. But we see broad continuity in government policies and it unlikely that there will be a radical roll back of reforms. India won't move backwards and gradual reforms will continue.
DWS Tax Saving Fund and DWS Alpha Equity Fund are both very large-cap oriented funds. Are you not of the opinion that a mid-cap rally is on the cards?
Firstly, the benchmarks for the tax saving and the diversified equity funds are CNX 500 and Nifty, respectively. The asset allocations in terms of market cap do differ for the two funds. While we have a sizeable chunk of the portfolio in large-caps that does not mean we are ignoring mid caps. Some of our small- and mid-cap picks have done very well.
Our strategy is to approach mid- and small-caps on a bottom-up basis. The DWS Alpha Fund is a large-cap, diversified fund. We look at the individual merit of a stock and not necessarily at market cap. So if I think a particular stock is growing at 30-40 per cent on a multi-year basis, I would be less sensitive about its market cap.
Currently, we are not sure that mid caps will continue to outperform large caps. In fact, we believe that there are certain large caps that can do exceedingly well. So its fundamentals of the individual company which drive stock price performance in the long term.
Can you name some?
I would not like to name individual stocks but we are very bullish on the mobile space, capital goods and engineering.
Your portfolios indicate a preference for Bharti Airtel over Reliance Communications. Why?
We like the telecom sector. We like both Bharti and Reliance Communication, both are in our portfolios. In fact, we also have Aditya Birla Nuvo where Idea Cellular accounts for a meaningful portion of the stock's value.
We are very bullish on the mobile space. Nifty has an 11.5 per cent exposure to the mobile space but we are at 13 per cent if we account for Aditya Birla Nuvo. In spite of India offering a one-cent per minute tariff and in spite of competition heating up again, the fundamentals are sound, as strong growth in the sector mitigates the tariff pressure.
Capital goods and Engineering. Capital goods is almost 11 per cent in the Nifty, we are at 14 per cent.
Why?
Steel, cement and refining are all operating at very tight capacity. So one can expect a lot of corporate capital expenditure, since factories will be rolled out for capacity creation. Parallel to this will be infrastructure spend. These sectors have visibility for the next few years. Compared to its historic valuation, the sector is expensive at a PE of 20+ for FY08. But this could be a multi-year story. Companies in this space have healthy order books, limited impact of global concerns, abilities to execute and thus there is visibility of growth. Capital goods have been outperforming the benchmarks for a number of years.
You seem quite positive on steel.
True. There has been consolidation in the global sector. There is a constant fear that Chinese exports will hit the steel market worldwide. But these exports have come down over the past few months. So it is quite likely that there will not be a supply overhang. Domestically, demand is quite robust and is likely to remain so for some of the reasons discussed earlier. The companies are cost competitive and with a growth cycle in place, valuations are not rich.
Why does Ashapura Minechem and Gujarat NRE Coke feature in your portfolio?
We believe that natural resources companies look promising on a demand supply basis. Natural resources like iron ore, coal and bauxite have limited supply but with the strong growth in countries like India and China, prices of these commodities could possibly remain firm. Valuation of these companies are not demanding if seen from this point of view.
You never mentioned technology in your favourite sectors yet it falls in the top three.
That is more of a mathematical computation because of the absolute weightage of technology in the Nifty where it has a 14 per cent weightage. But in the Alpha fund, which is benchmarked against the Nifty, we currently have just a 7 per cent exposure to the tech sector. So while it is a large sectoral weightage, we are underweight in technology.
Why?
It has underperformed in the recent past. The rupee appreciation has led to negative sentiments. Now investors are waiting to see if there is any impact of the sub-prime crisis on American banks which is meaningful enough for them to slow down technology spending. If the sub-prime crisis affects the US financial system, tech companies might possibly witness slower growth, especially for companies where the BFSI segment accounts for a large share of revenues.
But this impact might be seen only after six to eight months. So as the market absorbs fresh news in contrary or agreement with this apprehension, the tech sector will move accordingly. The October results too should give some direction to this sector which is suffering from investor neglect.
On the flip side, if outsourcing continues in spite of any turbulence, it will be business as usual for Indian companies.
So it could be a contra bet now?
True. There are two ways to look at it. The sector has really underperformed and if one looks at historic valuations, they have corrected meaningfully. In fact, if one looks at the sector premium to the broader market, it has shrunk meaningfully.
But we have decided to adopt a wait-and-watch stance.
We are underweight in the PSU oil and gas sector. The companies may be attractive on valuations but government intervention in this sector is high as the government does play a key role in determining subsidies and regulation. HPCL was an opportunistic buy when it fell sharply. We have a meaningful exposure to Reliance Industries and Reliance Petroleum.
You speak about being overweight and underweight in sectors. Do you have any limits on it?
Our internal regulations don't permit more than 30 per cent of the portfolio in one sector, which is absolute, and not more than 15 per cent overweight, relative to the benchmark. So for example, if a sector comprises 3 per cent of the benchmark, we cannot exceed 18 per cent.
After you sold Jaiprakash Associates you have no real estate exposure.
In real estate, one can invest in real estate developers or in companies which own land banks. We have in past owned companies that have substantial land banks like JP Associates and Century Textiles.
Our apprehension of real estate developers is that growth projections are very high. And we don't know if prices will hold at the current levels. We would like to see the impact of high interest rates on the demand and prices of real estate and whether all the projections are likely to be met or not.
It is definitely a sector to watch. There is genuine need for housing and specially housing for middle-class and upper middle-class which they listed companies target.
We don't see an ICICI Bank or SBI in your portfolio. Why not?
But we do hold HDFC Bank and PNB and HDFC as part of our banking and finance weightage.
In your last portfolio, we found the top five holdings and the top three sectors to be identical in the Alpha and tax saving fund. What differentiates one from another besides the tax saving feature?
Coincidentally, the top holdings are similar now but that does not mean that they will continue to be so. In fact, even now, the rest of the portfolio is quite different. The movements, volatility and returns of each fund are different.
The tax saving and opportunities fund - DWS Investment Opportunity Fund - have predominantly similar portfolios. Yet, the opportunities fund is more dynamically managed. And the mid- and small-cap ideas that appear here might also appear in the Alpha fund. Alpha is benchmarked against the Nifty and is positioned as a large-cap fund. We will maintain it on those lines. We do have meaningful positions in Bharti Airtel, Reliance Industries, BHEL, Larsen and Toubro and Infosys because we believe in these stocks. But we also look at the index weightages. Larsen and Toubro is around 3 per cent in the Nifty while BHEL is 4 per cent.
You seem to take more concentrated bets in Alpha. Is it more aggressive than the tax saving fund?
Not really.
The Alpha portfolio will typically have around 30 stocks. The other two funds should have between 30-35 stocks. More than that makes it very difficult to track and monitor the fund. Also, we believe that a stock should have meaningful weightage in the portfolio. So we will not have a portfolio of 50-60 stocks. We don't want a huge basket of stocks with each having small weightages.
This fund's performance over the last three years has consistently been above average. But in that year, a few of its stocks delivered very well. For instance, our call on the non-ferrous sector had worked well. In the past few months, the fund has gradually been doing better.
How do you describe yourself as an investor?
We buy quality stocks. We take opportunistic calls from time to time but are not traders. We are neutral between value and growth but look at each stock on its individual merit. Our stock picking strategy is a mixture of top-down and bottom-up. We believe that India offers a great variety of bottom-up ideas across sectors, but we also use the top-down strategy for sector over weights or under weights.
Do you resort to cash as a defensive measure?
Not really. Typically, we would always stay invested. Instead of creating cash we would buy defensive stocks. Recently we increased the consumer weightage. During the market turbulence we sold some stocks to book profits and bought stocks with defensive characteristics.
We do carry out a liquidity analysis periodically so we are aware of how long it will take to liquidate the portfolio based on daily average volumes. This gives us a sense of how much our weightage in illiquid stocks should be.
Your team is very small.
We have two analysts in the research function. We have an offshore desk in Singapore as well and with we discuss ideas and share research. We also inter-act heavily with our counterparts across the globe so as to get views on global events as also on new ideas and approaches on research.
With just three in India, your in-house research would be insufficient.
We monitor and track around 200-250 stocks. In terms of small- and mid-cap stocks, our in-house research is much more intensive, in terms of models and management interactions, than what we receive from various brokerages. For a large cap which is tracked in depth and breadth, we would rely on reports to see latest developments, issues facing the sector, and build a view based on all these inputs. We get quality research support from various broking houses. We then make our own judgments based on all inputs.
Your AMC has a very small presence in the Indian equity fund space. What made you join this place?
While our on-shore equity mutual fund assets appear relatively small, Deutsche Asset Management's overall Indian equity exposure through various international funds is in excess of US doller 1.5 bn.
There is a renewed thrust internally on growing our on-shore equity assets. Over last few years, we have seen strong growth in our overall assets. Even in the current year we have grown by over 70 per cent in our assets.
India is a strong focus within Deutsche Bank as well. So naturally one can expect much more activity from us in this space in the future.
This interview appeared in September 2007 Issue of Mutual Fund Insight.
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