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Concentrate and Win

Does this strategy work in India? Value Research looked at the fund universe to see whether concentration has clicked here

In fund management, there is always a battle of diversification and concentration. Finance theory and even find managers like Peter Lynch have preferred spreading their risks. Investors like Warren Buffett do not mind taking a few concentrated bets, and watch them grow. But this takes immense conviction.

In the Indian mutual fund industry too, there are fund managers who have confidence in the companies that they own. Value Research looked at the fund universe to see whether concentration has worked in India.

We considered only those equity diversified funds that have been in existence for at least past three years, and have over 60 per cent of their assets invested in the top 10 holdings for at least 20 months out of the 37 months since January 2002. The criteria enabled us to zero down upon ten funds. Let us first look at the top performers.

Alliance Basic Industries Fund heads this list. It maintained a portfolio of more that 60 per cent invested in top 10 holdings for all the 37 months of the study period. The five-star rated fund has outperformed the category average in all of the last four years. Besides the concentration in its top ten holdings, it did not hold more than 23 stocks in any of the last 12 months.

HDFC Equity is another fund, which has maintained a portfolio of more than 60 per cent of its assets in the top 10 holdings for 33 months out of the last 37 months. This fund is also a consistent performer and ranks 13th over the last three-years out of a total of 59 funds.

Franklin India Bluechip has invested over 60 per cent of its assets in the top 10 holdings in 30 months. This is India's largest equity fund and has a sterling track record.

Bonanza Exclusive Growth had a concentrated portfolio in more than 20 months. One of the brightest patches in the funds history had been the year 2001 when it lost only 0.40 per cent against the category average returns of negative 19.09 per cent. This shows that a portfolio of few, but well researched stocks can limit your downside in a bear market. Though the fund has not performed well in 2004, the fund has outperformed the category over a five-year horizon as on March 2, 2005.

However, 'too much' can at times be 'too bad' as well. Some of the concentrated funds that still need to do a lot of work to prove their worth are Taurus Discovery and ING Vysya Select Stocks. The exceptionally poor performance of both the funds during the bear phase of 2001 underscores the risks associated with having a concentrated portfolio. There are also some concentrated funds with middling performers such as Alliance India Buy, Kotak MNC, LICMF Growth and Cholamandalam Growth.

A concentrated portfolio can enhance your returns by providing some exceptional returns. This is because a few well-researched stocks might end up being the top gainers during a bull run, and a diversified portfolio can dilute the returns of such winners, by holding dozens of stocks in small proportions. On the other hand, if such calls go wrong then the concentrated funds can become the biggest losers.

While the need for diversification can never be over-exaggerated, nevertheless, it could be a good idea to trust a part of your portfolio to a fund manager with great conviction in a few stocks.



Top-6 Concentrated Funds' Return#
Funds   6-Mth  1-Yr  3-Yr  5-Yr  Rating
Alliance Basic Industries 16.98 19.67 51.36 34.28 *****
Bonanza Exclusive Growth 22.49 23.7 37.79 25.34 ****
Cholamandalam Growth 17.92 25.04 38.91 -- ***
Franklin India Bluechip 15.36 14.88 40.23 20.32 ****
HDFC Equity 17.98 25.07 44.87 24.38 ****
Kotak MNC 21.44 41.48 35.72 -- ***
#Sample include at least 3-yr-old equity diversified funds having over 60 per cent of AUM invested in the top-10 holdings for at least 20 months out of the 37 months since Jan ’02
Data as on April 5, 2005