VR Logo

Companies, not markets create wealth

In this interview, Anand Shah, Head - Investments and Deputy CEO, BNP Paribas Mutual Fund shares the fund's investment strategy, sectors that look attractive and more

Companies, not markets create wealth

What is the USP of your investment strategy? What key attributes must a stock have to be a part of your portfolio?

As a philosophy we believe that "companies create wealth and not markets" and thus the focus is on identifying businesses which can grow earnings at a faster rate for significantly long periods of time. Towards the same we have an in-house BMV (Business - Management - Valuation) framework, an elaborate process which helps us in identifying companies that possibly grow earnings at faster-than-market growth rates, for a significantly long period of time.

For any company to make it to our portfolios, it has to pass through each of the BMV filters. Firstly, a business should have profitability growth structurally and/or cyclically that is far higher than markets. Also, each business we invest in should have sustainable competitive advantage (moat) for it to sustain the superior earnings growth rate. And lastly, we also closely look at sector dynamics, where we would like to invest in sectors which are consolidating rather than fragmenting. Once a company passes through the business filter, then we move to management where we look for leadership in two aspects: one is competency and the other is corporate governance. Once we are satisfied with this, we then move to valuation and look for margin of safety by buying the company at a discount to its intrinsic value.

Thus, while investing we focus on all aspects of a company, viz. quality of business, sustainability of growth, governance and price being paid for the company. To us, all aspects are important and non-negotiable.

What are your red flags? What kind of stocks or sectors would never be a part of your equity portfolios?

Red flags can come up for us in each of the three pillars of evaluation under the BMV philosophy.

  • Generally under the first pillar, we look for businesses that are sustainable in nature. While governance has always been an area of focus, increasingly environmental and social factors (under ESG) are also gaining importance. We have already seen that the markets and businesses globally, including in India, are very cognisant of this and are adopting their businesses towards these important themes. The businesses ideally need to operate with integrity with respect to all stakeholders - not just one set. Once we identify these, it is slightly easier for us to be part of businesses that are growing at a rate faster than the economy.
  • The next level of analysis or filter used is the Management pillar. Here our endeavour is to identify promoters and/or managements who can (a) allocate capital judiciously, (b) operate competently and with integrity with respect to all stakeholders, (c) have a good governance track record across their group businesses of operating in a judicious manner.
  • Lastly, we look at valuations - never in the reverse order. We believe in paying a reasonable price for great businesses and managements.

The absence of any of the above is a red flag and hence would not form part of the portfolios basis our investment philosophy.

Your large-cap fund and your tax-saving fund have done quite well in the past year. What has contributed to their outperformance?

You are correct with your observation of the last one year; we believe that it is largely due to our BMV philosophy. In addition to what I have discussed above, we have also recently increased focus on cash flows of businesses (rather than just earnings) at the level of idea generation, idea screening and continuous monitoring. Also, at the portfolio construction level, we have blended an increased risk management process. This has helped us in the last one year and we believe sticking to these basics with discipline can help in the longer run as well.

What sectors or pockets of the market look attractive to you at the moment?

We believe that the only secular part of Indian economy has been the burgeoning middle class and its rising incomes. There has been secular growth in both savings and consumption of the Indian middle class. Basis that, we are positive about private financials with a retail franchise and select pockets of consumption.

Private banks within financials have gradually been gaining market share from PSU banks over the last two decades which is a structural trend likely to continue going forward as well. We believe private banks are equipped with adequate capital and better access to the markets for additional capital if need be, besides stable management, focus on retail business and fee income leading to better return ratios. We also like insurance within financials, as the sector may deliver good growth in the medium term, with the potential to improve profitability by increasing the proportion of higher profitable but under-penetrated term insurance businesses.

Further, there are pockets of consumption like organised retail, paints, packaged foods, movie exhibition (multiplex) and aviation which continue to clock good volume growth despite overall consumption slowdown. While this segment is expensive, the higher and sustainable growth visibility provides opportunities to pick companies.

Other than these, there are few select industrial companies with healthy balance sheets and execution/technological capabilities which could benefit from a gradual pick up in India's private sector capex.

You have fairly high cash holdings in your equity portfolios as per August-end disclosures. What's your plan to deploy it?

In the normal course of business we endeavour to remain fully invested. However, the high frequency economic indicators we track were signalling a slowdown especially in auto sales, industrial activity, system credit growth and government expenditure growth. In that context, we had pruned our exposure to these sectors and have temporarily raised cash levels to the tune of 6% - 10% of net assets depending on the fund strategy. Meanwhile, we continue to watch for cues from the economic momentum as well as doing channel checks across various segments. Based on our on-ground research feedback and our bottom-up work and data points, we intend to work towards deploying the cash effectively.

You have a focused as well as a diversified product offering. Which one would you recommend to which type of investor?

As a fund house, we believe each product is tailored for a certain risk appetite. Equities in particular are a long-term product. In that sense, our suggestion for mutual fund investors is to consider investing through the SIP route, given valuations and flows may be difficult to predict as they are behavioural in nature. This can bring in an element of a disciplined investment approach which is important from a long-term perspective.

As regards the suggested funds, it really depends on the investor risk profile. If it is an investor who has an appetite for equity, then they should look at the multi-cap segment, given these funds can participate in good investment ideas, notwithstanding any market cap restrictions. The ELSS-fund category is a tax saver product and is suited for investors who have that objective in mind. The multi-cap funds category is a plain vanilla, one while a Focused funds category has a concentrated portfolio. In that sense, multi-cap funds can be more suited for a slightly risk averse investor as there can be more diversification. In Focused funds, the investment ideas are more concentrated and in that sense, has a higher inherent element of volatility in comparison to multi cap funds. It can be better suited for seasoned investors who understand equity as a product fairly well.

What's your view on the rising popularity of passive products?

This is a trend witnessed globally and is seeing some movement in India too. However, the depth of the market has been relatively difficult in India and to that extent, this strategy has largely been restricted to the large-cap space. While this is likely to work as long as the large-cap space is in flavour, most of us do know and understand that India is a very broad market in terms of number of companies listed and there can be a lot of good bottom-up businesses in the country. As the valuation gap has narrowed (vis-a-vis the last 18 months) for mid and small caps versus large caps, these bottom-up names with sound fundamentals could start getting recognised and may see active interest.

While these flow-related factors will be there, at our end we focus a lot on our BMV (Business, Management and Valuation) philosophy of investing where we look at businesses that grow faster than the economy, managements that focus on growing sustainable market share with focus on cash flows, disciplined capital allocation and adhere to high standards of corporate governance. If we are satisfied with the above parameters, then we focus on valuations. We believe this has aided our performance and we continue to focus on the same.