We Advise Investors To Adopt Fund Route To Participate In Mid/small-cap Segment: Taher Badshah- CIO, Equities, Invesco Mutual Fund

What do you make of the recent market volatility? Is the liquidity fuelled rise on the verge of a topple, or is it just a retracement in a bull market?

The course of the market recovery in the last 3-4 months has been quite orderly in our view, with investor attention shifting gradually from “survivability” in the first phase to “earnings resilience” in the second and eventually then to likely “recovery” of earnings. The relentless rally in the market of recent months does imply that making investment choices today is getting increasingly difficult. Arguably, one can’t but acknowledge that stocks have outperformed businesses near-term. After the initial sharp rally driven by the moderation in the pandemic, massive stimulus and eventually re-opening of economies, the next leg of market performance will have to be propelled by earnings growth, wherein visibility remains quite constrained. Thus, a general market cooling off that provides for potential earnings disappointment will be healthy in our view. Given that economies are on the path to recovery and monetary support on current reckoning does not appear to be going away soon, we do not expect any deep correction in the market either.

What’s your take on small & mid-caps right now? Does the risk/reward justify an allocation to them, for long term investors?

Mid and small-cap enterprises typically prosper during periods of a good domestic growth cycle which unfortunately has not been forthcoming in the last few years. This is also reflected in their underperformance of the last 3 years with valuations too reflecting the same. Even though mid/small caps have done admirably in this recovery and even CYTD, we think this space can still do well in the coming years as we see an improvement in the overall India growth cycle. From the perspective of long-term valuations, the mid and small-cap indices are still at a discount to their long term average and offer a good opportunity to long term investors. We advise investors to adopt the fund route to participate in the mid/small-cap segment over individual stocks given the inherent risks.

As a fund house, you seem to be suggesting that a concentrated portfolio strategy is the way forward at the moment, considering that you’ve launched your ‘Focused 20 Equity Fund’ at this time. Do you not think this is a high-risk strategy given the uncertain times we’re in?

A focused fund in our view is worthy of consideration at all times as inherently this strategy is designed to demonstrate high-conviction, bottom-up stock picking which, if supported by intensive analytics and strong due-diligence can produce above-average investment outcomes. In a world challenged by a crisis, the importance of a meticulous investment process that concentrates on less over more assumes even greater importance.

What should investors keep in mind while investing into your Focused 20 Equity Fund NFO? Do you recommend a lump sum investment or a more staggered entry via STP’s?

Investors in a focused may want to reconcile with higher volatility given that a concentrated strategy comprising of up to 20 stocks will likely have a fair deviation from the underlying benchmark. However, this need not necessarily imply higher risk as risk and volatility are used interchangeably. Risk in our view is more fundamental while volatility results more out of daily fluctuation in stock prices, which beyond a point nobody has control over. We believe our thorough process-backed investment approach will enable us to mitigate risk. Additionally, this fund would use a few levers such as a multicap configuration, a good blend of growth & value opportunities and the right balance of bet sizing as safeguards to contain volatility. Being an NFO we shall have the flexibility to pace our investments over a decent length of time as per regulation. Keeping in mind the present elevated state of the markets, we would be exercising due restraint at our end in the portfolio buildout process. We are thus neutral to either a lumpsum or an STP driven approach by an investor.

Will you be playing any particular themes or sectors in your NFO, and why?

Given that this fund would restrict itself to a maximum of 20 stocks, we would like to believe that this fund would emphasize themes over sectors. We would like to represent important themes such as digitization/automation, domestic manufacturing, changing consumer trends in a post-Covid world, defense etc. through this fund.

Lastly, is there any visibility on how COVID will affect earnings growth and the long-term fundamentals of corporate India? We are at extremely high earnings multiples across the board. Is a prudent approach called for at the moment, instead of bravado? What are your thoughts?

Earnings visibility will be a function of consumption and investment trends, both of which are unclear at this stage and will likely take some time to evolve in a post-crisis world. What we can say at this stage is that the economy does have a few levers namely: 1. Rural India which does provide hope amidst this uncertainty, with relatively low COVID-19 related disruption and good back-to-back monsoons, 2. Lower interest rates and 3. Benign commodity prices that can restart the consumption cycle and drive investments as well. Though COVID sudden stop and moratoriums will delay asset quality recovery, the financial sector also seems less vulnerable in this crisis now than thought earlier, as it is well capitalised and trends in loan moratoriums are improving. However, given that presently stocks are outperforming businesses in several parts of the market, a calibrated approach to investing is clearly advised.