Why does ING Domestic Opportunities Fund have a huge large-cap bias?
The fund has no market cap bias. The mandate is to invest in companies which are growing in India, from domestic consumption and investment, excluding the export story. Currently, the portfolio has a 65-70 per cent exposure to large caps. But there are lots of emerging businesses and sub-sectors gaining prominence. Since inception, our mid cap holdings have hovered between 35-45 per cent. We consider liquidity and risk-return ratios when buying stocks.
When you say 'export story', it should mean tech companies. Why did you invest in CMC and NIIT?
As per our mandate, we do not invest in tech companies. But both are domestic market centric tech companies. We looked at companies which benefitting by huge amounts of hiring and found one company worth investing. We were one of the early investors in that company. We sold our position only after we made significant returns.
Are you taking a contrarian view on the tech sector?
As a fund house, we have been underweight in technology for a while. We are not contrarian for the heck of it. We avoid investing for short bounces. We wait for a change in fundamentals to invest.
What about the auto sector?
It's not that doomsday has hit the auto sector, by which I mean the two and four wheelers. Each segment requires a different strategy. On a holistic level, we are getting into a situation where interest rates have peaked and going forward will come down with the sector having a very low base effect. So from a contrarian view point, we may consider auto in the future.
You're positive on financial services. But you have avoided broking stocks.
Yes. We find the risk reward favourable. Most of the tilt is towards asset management, broking and financial product distribution companies. We believe that these businesses are significantly under penetrated in India. The real GDP is growing at close to 9 per cent. Assuming a nominal GDP growth of 13 per cent, the financial product penetration will see a huge wave. We have seen an IT and telecommunication wave. Financial product penetration is going to be the next big theme.
Where broking stocks are concerned, we have invested in a lot of businesses with embedded value of broking businesses.
We do not have a significant investment in this sector. Real estate prices and their rising unaffordability for consumers has kept a check on our investment. We are not comfortable with the price and the value offered. We will wait till we get some value.
You have avoided airline stocks.
We prefer 'win-win' businesses rather than 'I win-you lose' ones. We would rather go for businesses which are growing, like financials. We may look at airlines at the appropriate time.
This is the only fund from your fund house that has a 5-star rating. What's the secret?
The consistency of the return with a sharp eye on risk has been a key guiding principle for us. We have positioned ourselves as full market cycle investors. I am quite comfortable with the time risk and rather price risk, momentum based investing. You won't find obtuse returns here but neither will you see a significant decline in the portfolio value.
We have been early investors in a lot of businesses and we buy and hold till business value runs ahead of fundamentals. We don't churn our portfolio rapidly. If you look at the Sharpe Ratio of this fund, we are in the upper band vis-à-vis our competitors.
Can you explain what you mean by time risk and price risk?
A manager can generate returns either by identifying good undervalued businesses or by momentum investing which also hints towards timing the market. The return on that stock will be generated once the market recognises its true potential.
Sometimes, this process takes longer than you think and the portfolio assumes time risk on generating return. However, there is quite a compelling proposition to get sucked into momentum investing considering the return one can generate in the short term horizon. However, the risk can be disproportionately high to the reward expected and this is price risk.
In the current slump, what stocks did you pick up? Any great buys in the overvalued power stocks?
We increased our position in a few large caps like L and T, BHEL and ICICI Bank. In the power generation sector, there are two sets. Some set up power projects and have a de-regulated tariff structure. They would be beneficiaries of the demand supply gap. Others have a regulated tariff structure. Investors need to segregate between the two and look at the how much they should pay for each business. We have not found a very compelling case to make an investment at current price levels.
Do you think the bull run is running out of steam?
The macro headwinds are not positive. In the past one year, we have seen significantly positive headwinds. People have tried to equate the current slump with what happened in May 2006 when we did see an impressive bounce back. But that was when the U.S. economy was growing and we did not have a global credit problem. Things have changed dramatically in the last one year. The bigger question to answer this year would be on the risk appetite of the money flow towards emerging market. We are not in the best of times. Last year, there were huge investments coming into the country. We can see some slowdown in inflows, going forward. It's difficult for me to say how big the problem is in the U.S. and the shrinkage that may take place as a result. Decoupling, yes, on the fundamental side due to the domestic consumption orientation of the Indian economy and low export dependence. But not on the money flow side.
So you do believe in the fundamentals of the Indian economy?
The fundamentals of the economy are not being debated. Key growth drivers are in place. No one is saying that will be a deceleration in India's GDP growth rate.
The Sensex EPS is estimated to be close to 1,000 for FY09e and higher than 1,200 (including subsidiary profit contribution) in FY10e. If we exclude the embedded value to the various businesses which are at a nascent stage while not contributing to the earnings, it would be close to 1,800 points. This leaves us with PE multiple of 15 which seems quite reasonable.
I would be glad if we can see return of 12-14 per cent this year. But at any point of time, the market will offer opportunities, like the crash in the last few days.
You say decoupling will happen on the money inflow side, but domestic money going into the market has risen.
The mutual fund industry has equity AUM of 55 doller billion while insurance net equity inflow would be closer to 15 doller billion in FY08. We have witnessed FIIs with incremental flow of 15 doller billion till date. The rise of the domestic insurance industry is a comforting factor and important for stability of the market but is not sizable compared to approx 300 doller AUM of FII investment in the Indian markets.
Which sectors are you avoiding?
An investment idea has to flow through three litmus tests.
The business has to be compelling enough to warrant investment. The price has to be reasonable to invest in that business.
We make our money on buying undervalued securities, not just good businesses.
Finally, we have to gauge the sentiment in the sector or stock as that leads to under or over ownership issues. You may have a great business, a compelling price and overreached sentiments. That's a recipe for disaster.
We make money when we buy a great business at reasonable value. So I may avoid certain sectors now but I may get into them later when the risk-reward ratio becomes favorable.
Currently, we are under invested in real estate and technology.
This interview appeared in February 2008 Issue of Wealth Insight.