In an interview with ETMarkets, Pathak said: “We like to identify ‘change’ in business fundamentals which can lead to ‘change’ in growth or ‘change’ in valuation – or both,” Edited excerpts:
The fund tracks the India Story and the chatter on the Street is that ‘The next decade belongs to India’. What are your views?
We agree. We continue to be quite positive on the Indian market outlook. Growth is the reason and along with it, India’s much improved macro-economic stability.
India’s growth gap over the rest of the world is widening and India will be the fastest-growing major economy in the world over the next 5 years at least.
So, visibility and sustainability of growth are the key reasons. Over the last 20 years, a substantial part (~85%) of market returns have been contributed by earnings growth and dividends.So, we think growth and the underlying increase in the intrinsic value of business enterprises will lead the markets.
While FII flows will remain volatile, we think as time progresses, we will see a strong build up for India as a single-country destination for FII flows.
This is because India is soon becoming ‘too big to ignore’ by the virtue of the size of the economy (5th largest now), the size of the market, and its weight in emerging market indices (now 2nd highest after China).
With this, the Indian market is also much deeper (~400 companies with a market cap of >US$1bn) and broader (wide sector/economic activity representation) than all emerging markets other than China.
There is a sustained domestic inflow into equity markets, more so from sticky sources such as SIPs in mutual funds, insurance companies, and pension funds. Interestingly, a confluence of domestic and FII inflows can be quite supportive of markets going forward.
Markets are now at a slight premium to past averages. We believe markets should certainly be at a premium to the past and valuations are not expensive in general. There will always be pockets of overvaluation on a stock-specific basis.
The reason we think they should be at a premium is that India is far stronger in its growth outlook, compared with the past and with the rest of the world, with much better macroeconomic stability on fronts such as inflation, current accounts, forex reserves, and fiscal deficit.
How do you pick stocks for the fund?
We believe in fundamental investing. We focus on capital efficient and sustainable growth businesses at attractive valuations. We are bottom-up stock selectors.
We like to identify ‘change’ in business fundamentals which can lead to ‘change’ in growth or ‘change’ in valuation – or both.
We are long term investors with a minimum of 3–5-year horizon. We have an investment process which helps us identify opportunities from our ~140 stock coverage universe at any point of time.
We follow a high conviction, focused strategy of investing in ~20 businesses in each portfolio. We are market cap agnostic; we focus on the business and not on its size.
We are thus all cap/multi-cap strategy with a historical, typical and indicative exposure of ~ 50% to large caps, and ~50% to mid and small cap. We are also ‘style’ agnostic as we have mix of value and growth stocks in our portfolios.
We are also benchmark agnostic, as we are focused on bottom-up stock selection and thus we have a high ‘active’ share of >70% in our portfolios.
While we have a focused portfolio, we make it a point to diversify across sectors/themes/ trends. We believe we are an all-seasons core portfolio.
How do you manage the risk?
Risk management is embedded in our Investment Process. By focusing on price-value gaps, we strive to achieve a balance between risk and reward.
We have an independent central risk management and compliance function, outside the purview of our business, which ensures high standards in adherence to the risk management guidelines. Some of our portfolio risk limits are as follows:
Active stock exposure not more than 10% of portfolio value at cost; stock exposure cap of 13% at market. Active sector exposure of not more than 25% of portfolio value, for Banks exposure of no more than 30%.
Cash calls only in extreme circumstances, not a regular feature of investment strategy. Stop loss ‘review’ triggers at a decline of > 25% for each portfolio stock (irrespective of buying price).
In your note you have pointed to the volatility which markets could go through amid the outcome of the Lok Sabha Elections. How are you navigating the volatility?
We continue to focus on our long-term investing thesis and would try to take advantage of any volatility in the market in identifying stock opportunities.
Why are you positive on the EMS space?
We believe that the manufacturing sector presents a compelling opportunity for investment today, well indicated by growing Government support through PLI schemes, much improved infrastructure, better competitive advantage and China+1 opportunities.
Within this, we like the EMS space where we find very high scalability and longevity of growth.
Banks and Life Insurance constitute a large part of the portfolio. What makes you so positive on both these sectors/spaces?
The Life insurance space has low penetration, will see increased push towards the high-margin protection business in the long term and has undemanding valuations.
Share prices of life insurance companies imply a growth rate of 3-5% p.a in premium growth for the next few years, whereas we think actual growth rates could be 10-12% p.a. at atleast.
We find stock opportunities in private banks. Three things will work in their favour: (a) strong credit growth as the economic growth remains robust,
(b) net interest margins will remain broadly stable – in a range, and
(c) asset quality issues are behind now and we see credit costs (provision for NPAs) falling fast having peaked out.
So, we see a good level of visibility in earnings growth for these banks. More importantly we see a better valuation arbitrage in favour of private banks when compared with NBFCs and PSU Banks.
Most of the private banks are trading at below their average valuations, while growth is not a concern.
Are you sitting on cash to be deployed later once the election results are out?
We are fully invested. We normally do not take cash calls and thus market timing calls. We believe it is pointless to await/time a correction when one is investing from a long-term point of view and in the context of India’s structural growth.
It is important to realize that corrections are a part of a natural process of stock market behaviour and indeed human behaviour. Corrections will thus always happen; they are normal and there is nothing special about them.
Who should invest in the fund and what should be the time horizon? How is the discipled way of investing changing fortunes of investors?
This portfolio is designed for serious long-term investors with a time horizon of >5 years, who believe in fundamental investing and who would like to focus on capital efficient and sustainable growth businesses at attractive valuations. Our investors are typically High Net Worth (HNI) individuals and families.
(Disclaimer: Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)
