Managing growth, value and thematic funds over various cycles can be quite a task. Sankaren Naren, Chief Investment Officer, ICICI Prudential AMC, has done a fine job in adapting to various investment styles.
We believe that ICICI Prudential Mutual Fund has numerous equity schemes as well as thematic and sector ones. Yet, your fund house has filed an application with SEBI to introduce goal oriented schemes.
Sector funds are niche funds. They are launched to appeal to certain investors who are seeking exposure in a particular sector and have the requisite risk appetite. Over time these funds will garner assets and increase their assets under management as they align to an investors need. I do think that distributors are having a tough time selling sector funds. Over time, the industry will evolve where investors will actively seek sector funds because sector funds can be extremely beneficial to an investor. We do not have a sector fund in a very aggressive sector.
ICICI Prudential Discovery put up some great numbers in 2009 but was in the dumps in 2007. ICICI Prudential Dynamic was great in 2006 but hit rock bottom in 2007.
I find it interesting that returns are always looked at in context of the market. I think one must also look at the fund in terms of actual returns. While Dynamic underperformed the benchmark in 2007 the return was pretty positive. In the case of Dynamic, the very nature of the fund is to do well when the market is volatile.
In the case of Discovery, one cannot be logical in expecting stable performances in a value fund over the short term. But over a longer period, value as a category will do very well. What eventually worked in 2009 was just that we sat with our investment ideas we were convinced about. The same stocks that gave poor returns in 2007 gave great returns in 2009.
However, one must always see returns in a context. If the benchmark delivers -20 per cent and the category average -30 per cent, then a fund which delivers -18 per cent has done pretty well though investors may not be satisfied with the return.
The year 2006 and 2007 were humbling years to see how the market can completely move in favour of just one or two sectors. But I do not get too worried about one-year performances. There will be years when the performance is more stable. For example the large-cap funds will have much more stable performances.
Your fund house has so many equity funds, how do you manage a common investment philosophy across all your funds?
Certain basic parameters stay across all funds.
Investing in quality stocks is the first and looking at bottom-up stock picking and balancing it with a top-down view. At the stock picking level, it is a common investment process.
However, when it comes to the fund level, the stocks that we pick up will differ. Which stock enters which fund will depend on the fund mandate and the portfolio construction of each. The fund will be focused on always staying true to objective. The stocks we pick for the value fund will be those which are cheap and out of favor. On the other hand, in the growth-oriented fund, the stocks that appear will be quite different.
One of the things I have found useful is looking at where the stock is in the context of the cycle. This is true of cyclical stocks which actually form the bulk of the Indian equity market. We do not have concept stocks like Facebook or Twitter. Hence, evaluating where we are in the cycle has been the most important aspect of investing.
Can you explain it more lucidly?
You can identify the bottom of the cycle by looking at the market news. A year ago there would have been no dearth of bad news regarding Telecom. So if the best company in the industry is having a bad time, that is normally the bottom of the cycle.
Conversely, if you look at a sector which is booming, you will find that the worst company in that sector is doing well. So you know that is the top of the cycle. So, for example, if you look at the sugar industry and see that a small company in North India is making huge profits, it probably indicates the top of the cycle.
Two years ago, when large-cap technology stocks were trading at 13x, people were skeptical. At that time we had a higher weightage to technology stocks because we believed we were in a down cycle. Interestingly, when valuations were around 23x there was no fear. Now we believe that large-cap technology stocks are on a uphill so we cannot be giving it the same PE in an upcycle that one would give in a downcycle. We are more cautious today than two years ago on large-cap technology stocks.
How difficult is it to identify?
Now I am not saying that it is possible to get it right in terms of timing every single time. Identifying the cycle is more of an art than a science. But it plays a very important role in performance.
When you see price to book (PB) value being high that is the indication of the top of the cycle. Too many new entrants are also an indication.
A low PB with entities exiting a business is usually an indication of the bottom of the cycle.
So you do believe in a mean reversion strategy?
I am a great believer in reversion to mean. When sectors go totally out of favour or become completely in favour, then there will be a situation where reversion to mean will work. In 2000, Technology, as a sector, went ballistic. As part of reversion to mean it did not deliver any returns for the next five years. In 2007, Infrastructure went ballistic. Now for the past three years the sector has not delivered any returns.
It is because of reversion to mean that we come up with asset allocation. When equity delivers very good returns money is pulled out and put into debt and vice versa. This implies a reversion to mean which will give the portfolio good returns. But while it is so intrinsic to portfolio management, it is difficult to explain it to people.
Logically you would use the same parameters you mentioned earlier when deciding when to sell a stock?
Selling a stock is often a switch.
Either we sell because we need to meet redemptions or because we want to lower our exposure to a sector and move into another.
If a particular stock is really stretched in terms of valuations, we will identify another stock to enter. End of the day, we run long-only funds. So we have to identify where to take out money from and where to put it.
In ICICI Prudential Dynamic, we can move across market capitalizations as well. End of the day, booking profits is a switch.
Another reason we would sell is if we want to hike our cash exposure, but that is only to an extent of 10 per cent. Only in the case of ICICI Prudential Dynamic Plan can we move into cash as much as 35 per cent, depending on valuations. This is clearly aligned to the mandate of the fund.
In your stock selection process, how important is meeting the company management?
As far as the investment process goes in ICICI Prudential Mutual Fund, the analysts and fund managers do make a serious attempt to meet the management of every company we invest in.
What is your personal view?
My personal view - not the view of the fund house - is that meeting the management is not of prime importance. I am greatly influenced by James Montier who came out with the book Seven Sins of Fund Management. In the book, he questions whether meeting companies provides any deep insights into why we should invest in them. He outlines five reasons why meeting company management could not be very effective. But in all fairness, they do provide a new dimension of thought to the fund manager which he can decide to accept or reject.
Corporates are smart and know what to tell an asset manager and what not to say. Basically they are experts in communicating what they want to. Globally, value oriented fund managers do not really hold this as a strong must-do.
In 2007 very few corporates could identify a big slump coming and in 2009 very few could identify the big boom that was on the anvil. A prominent banker told us that things are not as good as they appear to be at market tops and things are not as bad at market bottoms.
We closely look at balance sheets because numbers do not lie. We also consider sell side research and the internal research generated.
SEBI: Securities & Exchange Board of India / AUM: Assets Under Management
Read second part of this interview on June 28, 2011