Ideally, we are looking for companies that are growing at about 15-20% with good cash flow generation and acceptable return on equity, says Chirag Setalvad, fund manager, HDFC Mutual Fund.
What is your investment universe?
The Fund will invest between 75-100% in midcap companies and has the flexibility to invest up to 25% in large cap companies. Thus, the universe is quite large and we have a lot of flexibility. However, we would use the flexibility to invest in large caps in a very selective manner. Midcap companies are defined as any company with a market capitalization less than the largest constituent of the Nifty Midcap Index (and greater than ₹500crs).
What attributes should a stock have for it to become a part of your portfolio?
We would like to invest in businesses with good fundamental attributes that are run by sensible managements. At the same time, we want to pay a reasonable price for owning them. Ideally, we are looking for companies that are growing at about 15-20% with good cash flow generation and acceptable return on equity. It is extremely important for us to invest in companies when we can understand the business and its risks quite well and where minority shareholders are treated equitably. We would also opportunistically invest in companies where current profitability is below normal due to temporary adverse conditions and hence the business is available at an attractive price.
What kind of stocks never enter your portfolio?
We avoid companies whose business and its risks we can't understand well. We prefer not to invest in companies where management has a poor track record either of performance (e.g. consistently low ROE, negative cash flows) or treatment of minority shareholders. We are skeptical about companies with poor payouts, tax rates and cash flows and would prefer to stay clear of them especially when they have all three attributes. Lastly, for more cyclical companies, we would like to evaluate the business across a cycle and would avoid those companies whose returns and cash flows across a cycle are unsatisfactory.
What will you attribute the relatively superior performance of your fund to in recent years?
We have followed a bottom up strategy in creating a portfolio of reasonable quality business while avoiding overpaying for them. In doing so, we have attempted to minimize our mistakes. This has worked well for us so far. We have held our stock for an extended time frame and this has led to good compounding of returns. We have also maintained reasonable diversification at all points and avoided taking aggressive cash calls.
Is there any tactical miss you regret (for instance, not owning a stock or not owning enough of it)?
Regret is an inevitable part of this business be it the wish to have owned more of a winning idea, having avoided a laggard or the regret of not owning a stock at all. I regret owning good businesses that were going through a temporary difficult period during which they became available at a reasonable price.
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