This fund is categorised as a mid- and small-cap fund. How much do you permit yourself to move into large caps in this fund?
Mid-cap funds are generally constructed on a bottom-up approach and thus are size agnostic. We do not have a pre-defined allocation to large caps. However, as per the offer document, the fund’s mandate is to invest a minimum of 65 per cent in stocks which are not part of the top 100 stocks by way of market capitalisation of the National Stock Exchange (NSE). The fund’s average market cap is lower than that of the benchmark.
If we look at the last two portfolios, it is apparent that your large-cap allocation has gone up to 20 per cent.
There is no pre-set large cap bias in the fund and there are few points to be considered when analysing the fund’s portfolio with respect to market capitalisation.
One, over the past one year, there has been so many headwinds and our focus is on relatively large quality mid caps which are better positioned to deliver growth in a challenging environment. We have a filter while selecting businesses based on minimum cash generation of about Rs 100 crore - rather than market capitalisation. Two, the size definition by itself is vague depending on how one defines. If we compare with the benchmark - the CNX Midcap index, the average market cap of the top 20 stocks would be about Rs 14,000 crore and that for our fund would be about Rs 6,000 crore.
Our existing portfolio could be distributed in three buckets of about 30 per cent each - companies with a market capitalisation of Rs 1,000-3,000 crore; Rs 3,000-6,000 crore and above Rs 6,000 crore. The remaining 10 per cent is towards small-cap stocks (less than Rs 1,000 crore) and cash.
However, as mentioned earlier, the size-based classification is an end-result rather than any pre-set top-down approach.
Mirae Asset India Opportunities is a large- and mid-cap fund. In your experience in picking large and mid caps, what do you look for specifically in a mid-cap stock?
There are essentially two inter-related levers of value creation as successful companies migrate from mid-caps to large-sized companies. They are a strong trajectory of growth in earnings and re-rating in the P/E multiple associated with related such as earnings growth, scale, confidence in management, and so on and so forth.
We attempt to focus on identifying quality businesses which could take a step-jump in earnings, as invariably the multiple also expands. In the above context, we prefer companies with certain minimum level of cash flows. For e.g., if we were to choose between a company making say Rs 30-40 crore profit where earnings could expand by 3x over, say, three years as against a Rs 100 crore profit making company which could double in similar time-period, we would choose the latter.
Essentially, we look at high quality businesses, with some proven credentials, good management and a solid prospect, where the best is still to fructify and is thus not fully reflected in the valuations.
A lot of fund managers talk about ‘good management’. How do you quantify that? Is it purely subjective?
Qualitatively, the key parameters to look for in management are related to integrity and thought leadership, in that order. While there is no single parameter to quantify the same, it would be a fair assumption that while RoI is the most important factor to select a sector; differential RoE within the same sector would quantify how ‘good’ or ‘bad’ the management is. A high RoE within the same industry would mean a better managed company, given the capability to create higher value over time.
A look at your portfolios reveals that in this fund you do not take huge bets - stocks or sectors?
We do not take concentrated bets to avoid risks. Our top 10 stock holdings are in the range of 3-4 per cent each. Given that most mid-cap funds, including ours, are relatively less aligned to the benchmark, as a risk mitigation measure we do not invest more than 5 per cent in one single stock.
We do not want to take disproportionately large bets on a stock/sector as our objective is to outperform the benchmark with an eye on absolute returns. Basically, we are looking at consistent and steady returns.
Does this conservative stance mean that you take huge cash bets? In February 2011 you were almost 10 per cent in cash.
In general, we do not take cash calls. On an average, the cash level YTD is about 6 per cent.
When you look at the quarterly numbers, you have put up a good show. The one-year return too is impressive. What is the secret for this fund’s success?
A one year time period is a relatively short-period to look at returns, although last year has been quite challenging. We have been focusing on businesses which are relatively better positioned to face the current headwinds. This calls for additional filters while selecting businesses - filters related to inflation, interest rate, currency, and yet could deliver decent earnings growth. In addition, our endeavour is to minimise risk by ensuring high ‘margin of safety’ between the purchase price and our assessment of intrinsic value.
Since your stock picks have rewarded you, when do you decide to sell them?
We generally invest for the long haul, and would not sell a stock unless the company’s prospects are impaired on a long-term basis; stock valuations fully discount the fundamentals or if there are better opportunities available in the market.