“Gold and silver are supporting actors when the hero doesn’t perform”
Look at gold and silver as supporting actors which come into picture only when hero assets like equities don’t perform. You need to minimise changes in asset allocation to succeed. Don’t go by labels such as “growth” and “value”, the only thing that matters is buying rising cash flows at a reasonable price. In this interview with businessline, Kalpen Parekh, MD and CEO, DSP Mutual Fund, shares many pithy one-liners on investing and discusses the fund’s performance.
The bulk of investors in equity funds today have invested after Covid, when markets have seen a rally with very few corrections. We recently saw a material correction. How have these new investors handled it?
I feel it is monotonous to frame this as pre-Covid and post-Covid investors. We all tend to look at markets from the old lens of 1990s and are guilty of assuming that in this cycle, investors will behave like we behaved. But having said this, corrections lately have not been like the ones in an earlier era. Corrections become painful only when you suffer a capital loss over a long period of time. In the last five years, we have seen sharp price falls and equally quick recoveries in a matter of a few months.
Therefore, MFs continue to see between ₹25,000 crore and ₹40,000 crore of monthly new net flows. Yes, there are some investors redeeming from their legacy holdings. Talking of SIPs being closed, there will be SIP closures in the normal course as people meet their goals. But SIP closures in March were at 36 lakh or so. The peak number was 43 lakh and the number a year ago was about 17 lakh. So current numbers are somewhere in the middle. On monthly SIP inflows in the last 18 months, the lowest number was ₹17,000 crore and the highest was ₹24,000 crore. Last month, it was ₹23,000 crore. This conveys that a lot of investors have really embraced SIP as an enduring concept.
Valuations for mid-cap and small-cap stocks still look a little expensive. What are your fund managers doing to derisk now?
I would say most parts of the market are ahead of their fair value. We look at every company independent of its label of large-cap, mid-cap or small-cap. Our starting point is what should be the intrinsic value of the company versus what is the market pricing in today. In many cases, market-caps are ahead of intrinsic value. Even in large-caps, if you take the BFSI sector out, the rest are not cheap. But these are the cards that are dealt to us, and we need to play with them.
We do two things. We ensure that we invest in companies where the quality of the balance sheet is sound, which are solid enough to navigate stretches of expensive valuations or can grow more than peers. Individual managers have discretion to take some cash calls up to 10 per cent. We also have our publication NETRA through which we flag off risks to investors. We have been encouraging investors to use hybrid funds or multi-asset funds through the last 18 months.
In an interview, you said that in your personal portfolio you had booked profits in mid-cap funds and switched to hybrid funds sometime last year. It was a timely call. But the biggest challenge with such calls is knowing when to get back into the riskier asset. How will you do this?
Any action should be the outcome of a pre-decided framework. The framework I applied is valuations in the context of expected growth. I normally don’t reallocate frequently. I like to keep my investing view-free and simple, with a limited number of actions. But in the last 18 months, markets have been frothy. Our NETRA has also mentioned that corporate revenues are slowing and we are at the peak of the margin cycle. I felt that we are probably paying 1.5-2 times standard deviation to fair value.
I had invested lumpsums in mid-cap and small-cap funds on the day of the Covid lock-down announcement. They were up three-four times in four years. I moved that money into hybrid funds. These hybrid funds have small- and mid-caps but with the cushion of global stocks, debt and gold. So that was just moving my risk one notch lower from fifth gear to fourth gear. I will not be redeploying that money back into mid-caps or small-cap funds. The fund I now own has the ability to make that change. I am not a fan of making frequent tweaks to allocation.
Today there’s a lot of interest in gold and silver ETFs. DSP MF has termed gold as a hedge against “sovereign stupidity”.
Yes, as you know, bonds can be printed by central banks at will. You can do a trillion dollars of QE. Companies can raise the supply of equity by diluting their capital. In financial markets, increasing the supply of paper is very easy. But for hard assets such as precious metals, the supply cannot go up easily. That is the construct to view precious metals as investments.
However, it is false to say that gold is a ‘safe haven’. If you look at the standard deviation of equity returns, it is very close to the standard deviation of returns on gold or silver. So the way in which I approach gold is to look at other assets. About three years ago, equities were not cheap, Indian bond yields were very low, US bond yields were almost zero. Gold and silver had gone nowhere for five-seven years. That’s when investing in gold made sense. Throughout history, whenever a “hero” asset class like equity goes through a correction, gold and silver emerge as supporting actors. But today, gold is up some 40 per cent in one year. So, I am not very excited about gold.
Usually, large-cap funds struggle to outperform indices while mid-cap and small-cap funds generate alpha. But in DSP funds over the last five years, the large-cap and focussed funds are outperforming, while mid-cap and small-cap funds are trailing benchmarks. Why?
A few years ago, there were many articles that only mid-cap and small-cap stocks offer a shot at alpha and that large-caps don’t. But what has happened is that, post-Covid, most actively managed mid-cap funds have trailed the index. When we were presenting in our Board meeting, we saw that almost 75-80 per cent of the mid-cap funds were underperforming the index. This is because many stocks in the index do not have respectable ROEs etc and cannot be part of an institutional portfolio, where we are managing other peoples’ money.
Besides this, we do keep challenging our own thesis and evaluating what has gone wrong. We found two aspects where we could have done things differently. One is that DSP MF’s portfolio turnovers are very low in small- and mid-cap funds. We tend to stick with our companies if we are satisfied with the quality of management, promoters, capital allocation etc. We hang on through business cycles. But in this market, that patience did not work for us. If companies are going through a lean patch or if they have done significant capex and profits are low, the market is penalising them. In some cases, there is business disruption. So, in the last 12-18 months, we have made changes and our portfolio turnovers have gone up from 15 per cent to around 20-25 per cent. This is helping. You will find our mid-cap fund beating the index for one year now. We are also a little bit tighter now on valuations relative to growth. We are adding more analysts to support Vinit for bringing back our performance in the mid-cap and small-cap funds, yet sticking to core principles of owning capital-efficient companies with long holding periods.
In our large-cap funds, we are managing them with a higher active share, with a new set of young managers handling our focus/ large-cap/ flexi-cap range. We have also integrated technology-led inputs to our judgement to make better decisions. As long as we stick our two pillars of valuation and quality, over a full cycle we should do better than the benchmark.
Can you share your personal learnings from Warren Buffett, as we have recently learnt of his retirement?
A lifetime is less to say that I have learnt everything from him. But one very important learning for me is that he has made “time” the hero in investing. His story is not just about the 19 per cent dollar CAGR that Berkshire has earned. It is about earning that 19 per cent over a period of 65 years, which is what makes it 55 lakh per cent. We can’t even imagine the number of zeros there!
The second lesson is that to survive that long you need to pick good assets, whether it is a bond or a share or the industry you choose. The third dimension is that you never overpay for anything.
I also feel that we often get tied up in labels like growth investing, quality investing, momentum and value investing etc. But that is just optics. The only thing that matters is whether you are buying rising cash flows over a long period of time, at a reasonable price.