Widely read:
Devender Singhal may have spent more than two decades in financial markets but his fire burns bright. This comes to the fore when he talks about the "excitement" of unearthing stocks "that others may be missing", especially during testing times.
Having been associated with Kotak since 2007, Singhal currently presides over 28 schemes with assets worth Rs 50,678 crore, including the five-star-rated Kotak Equity Savings Fund and Kotak Debt Hybrid Fund.
In this interview, Singhal shares his insights on market valuations. He believes that while large-caps remain reasonably valued, mid and small-caps' higher valuations are justified by their superior earnings growth if one has a three to five-year investment perspective. Singhal also discusses his current interest in consumer companies and offers his views on new-age firms. Below is the edited transcript of the interview.
How would you describe your investment philosophy? Are there any stocks or situations that excite you when evaluating potential buys?
I consider myself a bottom-up stock picker. I always look for the asymmetric risk-reward in the stocks I invest in. The idea is that for every rupee of risk that I put to work, I am looking at asymmetric returns. Therefore, for every rupee of downside, I need to generate more than a rupee of upside. In a steady state, I continue to search for stocks that can yield higher returns than the overall market.
Regarding market conditions which excite me more, I can honestly say that there have been numerous such opportunities over the past two decades, especially in the market conditions when investors struggle to find investable ideas. I believe this is a scenario when fund managers are tested. Those are the times when your actual research skills come into the picture. The most exciting part is what you can look at in a stock and find that others may be missing at that particular time frame.
However, regardless of market conditions, whether they are experiencing a boom or a bust, we consistently identify ideas that have the potential to generate long-term returns for investors.
We've seen some recent corrections in the broader indexes. Do you view this as a buying opportunity, or are valuations too high?
Valuations on the large-cap side don't appear very high. We are within a reasonable range or slightly above the fair valuation zone. However, the valuations are a bit higher in the mid-cap and small-cap space. Even though the valuations of the mid or small caps are higher than the large caps, their earnings growth is also much better. So, if you view the earnings growth three to four years down the line, then valuations don't look expensive.
That said, we don't see a case for multiple expansions from hereon in the mid- and small-cap space unless earnings start accelerating based on current expectations. So, at all points in time, there are stocks and sectors that offer opportunities, and we've already seen that. Now, talking about a correction that has happened recently, if we look at the last few months, quite a few stocks are way down. Some have dropped by 30-40 per cent in the mid- and small-cap segments. I think the market keeps giving such opportunities; one just needs to keep their eyes and ears open.
There's been a lot of debate around mid- and small-cap stocks. Some think they're overvalued, while others see strong growth potential. How do you assess these segments, and how do you balance short-term volatility with long-term growth?
Looking at the historic multiples, the mid-cap space appears slightly overvalued. At the same time, the earnings growth in the segment also remains quite high compared to the broader market and the large-cap names. Therefore, a three to five-year perspective partially justifies the multiples.
This space has yielded the highest returns over the last 10-20 years. One reason is that these are companies that have come a long way in terms of delivering supernormal earnings growth. They're the leaders in the particular segment or sectors, and the management has realised over a period of time that it makes a lot of sense to be minority shareholder friendly, whether it's a good or bad market condition. They consistently follow that practice, both in terms of corporate governance and being shareholder-friendly. The market also rewards companies with effective capital allocation strategies. But they are obviously available at a premium to the overall market.
The Kotak Multicap Fund has consistently outperformed its benchmark over the last few years. It's also been more volatile versus peers. What do you attribute that success to, and how do you manage this fund differently than your other equity funds?
Honestly, I don't pay attention to what my peers are doing. I keep doing what I know best and what I've been doing for the last decade at Kotak Mutual Fund. My investment philosophy prioritises asymmetric risk and reward, particularly in small- and mid-cap stocks.
When examining the small-cap space, I typically seek out names that have the potential to double in three to four years from our purchase price. This is due to the liquidity and opportunity costs inherent in small-cap investments. So, to be more consistent and long-term-oriented, we seek that kind of return. The top 250 stocks in the country (large caps and mid caps) are quite liquid, but that's not always the case with the small caps.
In addition, we have a model that assists us in determining when to be overweight in mid and small caps, based on the market returns of the respective indices. This model also shows how long we should remain overweight in that particular market cap. I think that has helped us over the last three years. We have just completed three years of the Kotak Multicap Fund, and the performance has been quite impressive. A lot of luck, along with the hard work, has gone behind that.
You are overweight in the consumer discretionary sector across your multi-cap and multi-asset allocation funds. What's driving your optimism there?
If you look at the post-Covid period, there was a K-shaped recovery. Therefore, one segment of the market, specifically on the premium consumption side, contributed significantly to the growth. Over the last three quarters, we have shifted our focus from discretionary spending towards staples. Only in the recent quarters, particularly the first quarter of the current financial year, have the large companies in the sector begun to suggest that the second leg of the K-shaped recovery may be underway.
With a good monsoon and the populist schemes being rolled out by the government—both the state and the central government—we expect a good second half for the consumer companies. We have strategically positioned our portfolio to align with this expectation.
The Kotak Multicap Fund currently displays a strong value orientation, with a lower P/E ratio (20 vs the market median of 30). Do you plan to maintain this value bias moving forward, and how does this positioning align with your broader market outlook?
We work hard to bring the portfolio's P/E down, but we are not trying to lower the growth rate of a portfolio company. In fact, if you look at the growth expectation for a portfolio, it's higher than the market growth rates, but the P/E multiples are low. I think our research team is doing a good job, and we will try to maintain the strategy going forward.
Right now, when we are looking at stocks, we want them to have two kinds of triggers: earnings growth and the possibility of multiple expansions. We aim for a portfolio that combines both types of triggers. We feel this strategy has the potential to yield positive results.
The Kotak Multicap includes new-age companies like Zomato and Nykaa in its top 10 holdings, and both have performed well recently. What is your outlook on the future of e-commerce in India, particularly in light of the mixed performance that some companies in this space have shown in the past?
While not commenting on a specific stock performance, I believe the future of the e-commerce space looks pretty bright. Wherever we find the risk-reward in our favour, we are happy to buy it. These new-age businesses come with their own nuances, where some come only for growth and some for profitable growth, and we need to look at each one separately. I'm glad that we have a very strong research desk that can identify better names within the entire space.
Indeed, we do consider the trajectory of profitability over the next few years. We won't buy just for the growth; the company should be moving towards the right trajectory to reach the profitable zone.
Also read: Interview with Cheenu Gupta of HSBC Mutual Fund
Disclaimer: This content is for information only and should not be considered investment advice or a recommendation.
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