Anand Shah makes an interesting observation on the earnings growth in FY2015 with regards to the Nifty components. He points to data showing that the top 20 companies have an average earnings growth of 23% while the corresponding figure for the bottom 20 is -25%. He uses this wide earnings growth differentials to explain why India is not an ETF market and offers amazing stock picking opportunities for active fund manager
Your funds have put up very good 3-year annualized returns in all categories: ELSS (19%), Large Cap (17%), Flexi Cap (17%), Mid Cap (25%).* What’s the reason behind the impressive performance?
* This refers to growth schemes and regular plans
The earnings growth of our portfolio is 8-10% higher than that of the benchmark. Our obsession to own superior businesses with superior management is what has made us successful.
We have avoided lots of losses. A large part of our performance has been generated by not falling abysmally during tough times. In the good times, we have preserved our performance. In other words, we generated a lot of alpha on the way down. In a bull market, we have preserved and maybe generated less alpha on the way up.
So while we are growth investors, it is not that we have a beta of 2. Our beta is always between 0.8 and 1. We are not beta investors but alpha investors.
What would be the reason for steering clear of a stock?
It could be due to any of the three reasons – business, management and valuation. Most often, the first two.
Management plays a crucial rule in taking the company forward. We look at management, corporate governance, capital allocation, vision and strategy. If we are not satisfied with our observations and are not convinced that the management’s decisions will create wealth, we avoid the stock.
On the business front – we look for growth. If there is no growth in the industry and the company has meagre growth, it will not excite us, despite valuations.
We also look at the moat, or the sustainable competitive advantage.
That is what a typical value investor would look at, not an outspoken growth investor.
If I am going to be buying a stock at a higher valuation, I will look for a strong moat. When you pay a high P/E multiple, you are paying for growth in the coming years. One can predict growth for one or two years. But to predict growth, say, five years down the road, you need the comfort of a sustainable competitive advantage. It provides an inherent advantage that the company will continue to grow faster than the industry. It could be a branch network, in the case of a bank. If the moat is a brand, then it is an inherent protection. Brands like Colgate or Lux are not easy to topple overnight. This moat gives an edge over the competitors and assures investors that it will grow faster than the industry.
Years ago you were very bullish on Bharti Airtel. The company had a strong moat by way of its brand. You were skeptical of Tata Docomo. But the latter made inroads.
It did hurt the industry. But end of the day, none of the later players were able to topple the large players. Today, post the carnage, we are back to where Airtel is in terms of market share. This industry has experienced massive losses, in terms of lakhs of crores. But overall we are back to where we started. Idea is the clear winner which has moved from a market share of 14% to 19%. But it is number three. In B-2-C businesses, it is not easy to topple players. In terms of superior spectrum and captive customers, the top three players of that time still rule.
So on the business front, you look for growth and moats.
The third aspect is the industry structure. Is it fragmenting? Is it consolidating? Will the number of players increase or decrease? If the number of players are going to increase, it will get messier and much more competitive. I would prefer staying away in such cases. An industry which is consolidating is more attractive.
What sort of growth do you look for when you hunt for stocks?
Industry, as a whole, is growing faster than the Gross Domestic Product (GDP). And, of course, there are companies which are growing faster than the overall industry average.
GDP is down to 5%. Nominal GDP, which used to run at 13-14% when inflation was high, is now running at 7%. So looking at earnings in excess of 20-25% was exciting. Today, I look for businesses that can deliver 15-20% on a sustained basis. Because now going ahead, Nominal GDP will be around 10-12%, depending on inflation.
And you see such growth in private sector banks, not public sector banks.
Public sector banks struggle for capital and people, and have issues with non-performing assets (NPAs). This has been their state over the past decade.
Private sector banks have the right manpower to propel growth, they devise strategy towards that end, and incorporate technology with greater ease. As a result they have grown rapidly. From the year 2000 they have continuously gained market share from public sector banks.
The confusion in investors’ minds is about private sector banks trading at 4x P/B. But the fact is that they have superior growth - always did and still do. The virtue of them having more capital and the percentage of their book in retail being higher than that of public sector banks is to their advantage.
So if I buy public sector banks, it is because of valuations, but the growth remains in private sector banks.
In this super competitive industry, what makes your asset management company stand out?
Consistent returns. Responsible investing. We believe that consistent and superior earnings growth in the portfolio will outperform the benchmark.
And this reflects in the tough times as well.
We are not looking at being chart toppers in terms of performance. We don’t chase beta. If the market goes up, we don’t aim to go up twice. We are alpha fund managers. If the market goes down, we aim to protect capital.
It is not that we don’t deliver in good times. Between May 2014 and May 2015, we showed a 14% outperformance when the secular stories which were underperforming before the elections began to pick up.
A version of this interview appeared in the online publication of India Markets Observer. The outlook for various asset classes, perspectives on the industry, investing insights, interviews of fund managers, and the entire list of contributors, can be accessed here.
