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Contra Is Not Value

Bhupinder Sethi, co-head, equities, Tata AMC explains the difference between contra & value investing…

Bhupinder Sethi, co-head of equities, Tata Asset Management and fund manager of Tata Contra Fund, says that the common perception of contra investing being akin to value investing does not hold true. According to him, a contra fund would not contain all bombed out companies in trouble, but a mix of companies that are doing well but were bought when they had their share of problems earlier, and companies which are going through tough times currently

How is the Indian market valued currently compared to its own historical levels and compared to other emerging markets?
Valuations in the Indian market are currently at around 15 times one-year forward earnings for the MSCI India Index, which amounts to a 7-10 per cent discount to the average valuations that we have seen in the last seven-odd years, from the time an extremely favourable capital gains tax regime was ushered in for equities. However, it is at a 10 per cent premium to the average valuations that we have witnessed in the last 15-16 years. Compared to other emerging markets, the Indian market is still trading at a premium since the MSCI Emerging Market Index is quoting at around 11 times one-year forward earnings.
However, the valuation premium that India enjoys has definitely shrunk in the last few months. India was outperforming other emerging markets from the time the current UPA government came in for its second term around two years back in 2009. With the Indian markets underperforming vis-à-vis other emerging markets in the last few months, we have given away all the outperformance that we were sitting on since the election results of 2009.

What impact is the current political situation having on policy-making and hence on market sentiments?
Market sentiment has definitely been at a low ebb, because delivery by the government at the policy-making level and governance at the ground level have been lower than expectations. Expectations were high from the current government when it came to power, which is when the Indian equity markets got re-rated and outperformed other emerging markets significantly. Unless the government delivers now, especially in terms of facilitating infrastructure roll out, our country may not be able to sustain the current growth rate of 8-9 per cent. At some level this will affect the valuation that Indian equities command.

How is contra investing different from value and growth investing? Is contra investing a good approach for the Indian market which is perceived to be a growth-oriented market?
The second part of your question reflects the common perception that contra investing is akin to value investing and is not about buying growth stocks. Warren Buffett, the great contrarian investor, has said that growth and value investing are joined at the hip. His contrarian buy call on US equities amidst the 2008 global financial meltdown was very timely and now he has given a buy call on Japanese equities in this knee jerk correction in that market post the recent tsunami.
Growth investing very often doesn’t pay, even if underlying business growth is strong, as very often investors end up paying too much for growth. Buying growth companies early when they are under-owned, and therefore under-appreciated, buying them when they go through lean patches, or buying them when they are hit by company-specific bad news which is temporary in nature enabling an investor to buy them cheap, is what would qualify as contrarian investing. In that sense, I think it’s a mistaken belief that contra investing is necessarily buying what are perceived to be classical “value” stocks.
To some extent, contra investing is confused with buying those stocks that are either obscure or ones that no one would ever want to buy. When one sees a contra fund portfolio, and sees blue chip companies with good business fundamentals in them, they seem out of place in a contra fund. The way we approach investments in Tata Contra Fund is that we principally want to buy the best and most fundamentally sound businesses only. We have a list of companies we principally like, and we wait for those companies to either fall on some company-specific bad news like an earnings miss, or some temporary setback in business, to buy into those companies. Also, if a company is in a sector that underperforms for an extended period of time, which makes the relative investment case stronger for that company, then also it would be an ideal acquisition candidate in the portfolio.
Once one has patiently waited and sown the seeds for future growth, one would want to reap the full benefit when that seeds flower. One would want to ride one’s winners. How would one make big money if one keeps clipping stocks after marginal trading gains? At all points of time, one would have a portfolio where one is reaping the rewards of what was bought earlier and riding that winner, and buying into some current underperformers and companies in a temporary spot of bother.
So our contra fund would not contain all bombed out companies in trouble, but a mix of companies that are doing well but were bought when they had their share of problems earlier, and companies which are going through tough times currently. So, essentially, we are willing to take time risk on our companies but avoid taking price risk.

Could you tell us about some of the contra bets that have worked for you over the past year or so?
In the past year or so, what has worked for the fund can be put in three different buckets. First, there are stocks that were bought when there was a lot of bad news surrounding them. They were bought on correction — stocks like HDFC Bank, Exide and Sun TV.
The second category comprises pure value or cheaper stocks, like GSFC and Gujarat State Petronet.
The third category includes stocks which, when the fund bought them, were stable, strong growth stocks, but had relatively less institutional ownership, and were therefore under-appreciated in that sense — stocks like Cadilla, Nestle, Cairn India, Crisil and 3M India.
The fund was accumulating a stock like Nestle in the first half of 2007 when FMCG stocks were underperforming and were out of favour. Infrastructure stocks were then in vogue. The fund has kept the stock as a core holding since then while partly trimming its position in it. Then we have a stock like HDFC Bank that was bought through 2008 into the bottom of the market in March 2009, when in the financial crisis that enveloped the world then, financial stocks were under pressure. That is also one stock that the fund has held since then, though here too it has booked profits from time to time.

What are some of the contrarian themes in the Indian market right now that you are betting on?
With interest rates on the rise, interest-rate sensitive stocks have underperformed in the last few months. This is one space the fund is looking at for purchases. We believe that auto and banking sectors have secular growth prospects, though there may be headwinds in the short-term. As and when inflationary pressures cool off and interest rates start to soften, some of these interest-rate sensitive stocks could come back into favour. Apart from this, we are always on the lookout for bad news on companies. To that extent it’s a very spur of the moment and opportunistic approach to investments, even though the template of the businesses we principally like is always ready with us.

To read the first part of this interview click here