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'Volatility may persist but trend is positive'

September 15, 2003 12:41 IST
Rajat Jain, CIO, Principal Mutual Fund

Principal Mutual Fund currently manages Rs 2,500 crore (Rs 25 billion) of assets spread across 13 schemes.

In the last one year, Principal's flagship equity fund, Principal Growth Fund, posted a return of 52.14 per cent, beating the Nifty (37.41 per cent), while its income fund, Principal Income Fund, gave a return of 14.23 per cent.

Recently, Principal Mutual Fund entered into a joint venture with Punjab National Bank for the mutual fund and pension business. Principal is likely to hold about 65 per cent in the new venture while PNB will hold 30 per cent and Vijaya Bank 5 per cent.

Rajat Jain, speaks about his stock picking style, market outlook and fund schemes.

Can you briefly explain what goes into your investment strategy?

We begin by analysing companies on three parameters - the strength of their business franchise, the quality and depth of their management and their valuations.

The idea of looking at the business franchise is that companies with strong competitive positions are more stable, are more in control of their fortunes and are more likely to earn a decent return on their capital.

One of the important determining factors in buying a stock is the price we are paying for it - or its valuation.

Ultimately, a major determinant of whether we are going to get returns in a stock is the price we have paid for it. Having said that, we are not bound by any particular approach - growth or value - in selecting our stocks. We do not tend to have a great deal of churn in our portfolio.

What is your view on the markets right now?

The markets have moved up sharply in the past few months and currently exhibit the following characteristics: Increased inflows from abroad and domestically, participation of small- and mid-caps in the rally along with the large caps, higher flow of sums of money through the mutual fund route.

Inflows from abroad are not a phenomenon unique to India as emerging markets as a class have done very well this year. Even if the flow of funds slows down, the long-term story on India remains that of a structural shift in the economy.

We have currently seen the corporate sector cut costs internally, helped by the lower interest rates.

Going forward, we see the government's focus on infrastructure not only reducing costs in the economy directly, but also lessening the uncertainty which corporates face in relation to the environment.

Indian industry also hasn't had much pricing power of late. With the return of even minor pricing power to the corporate sector, companies can show bottomline growth in the low teens for the next four-five years.

Hence, if we step back a bit, and look at the next three-four years, the markets are not all that high priced, especially if we compare Indian companies with their counterparts in emerging markets.

Since the markets have moved without much of a breather in the current rally, we expect volatility to be there in the markets, but the trend is positive.

The sector allocations for two of your equity funds -- Principal Equity Fund and Principal Growth Fund -- seem to be significantly different. How do you explain this?

The Equity Fund is focused on large capitalisation stocks while the investment universe for the Growth Fund is the entire markets. The Equity Fund would largely have exposure to companies which dominate their market.

The Growth Fund, while selecting stocks based on the criteria said above in answer to the first question, can also buy stocks with a lower market-cap. This primarily accounts for the difference between the two portfolios.

Principal Growth Fund had maximum allocation (17 per cent) to software companies at the end of July. This is contrary to the way most other fund managers have positioned their portfolios. What makes you bullish on the sector?

Our weightage to the IT sector is almost neutral. We are not very overweight in this sector compared to the benchmark index. Further, the volume growth outlook for large companies is improving. This will lead to bottomline growth that will make valuations look attractive.

On a relative basis, the IT sector has underperformed and relative valuations of many IT stocks are at attractive levels. This sector is also underowned by the funds and there could be a sharp rally in the sector.

One can't find a single pharma stock in the Growth Fund. Is it because you find it unattractive compared to other segments in the market? Or is there any major negative haunting pharma stocks?

We have booked profits and cut our exposure to the pharmaceuticals sector. We think that valuations, particularly for the top names, are somewhat rich and there could be event risks in some cases linked to litigation in the US.

Also, we thought there were better opportunities elsewhere - in the stocks that we invested in the domestic cyclicals stories.

However, there is the broad theme of the competitive skills of Indian drug companies in accessing the generic/specialty generic markets in the West, and the increasing focus on exports by domestic companies. We think that some mid-size pharmaceutical companies could be interesting consequently.

About 30 per cent of your stock allocation in the Growth Fund is to companies outside the Nifty. How much better or worse can the fund do with that kind of a deviation from the benchmark index?

The Growth Fund is a well-diversified one. The benchmark Nifty is used as a broader representation of the market.

The Growth Fund has beaten the Nifty across various time horizons. Portfolio construction of the fund is a two-step process - (a) identify stocks which we think will outperform that particular sector; (b) identify sectors which we think will outperform the market. So stock picking is not restricted to Nifty stocks.

The objective is to create a superior portfolio than the broader market. Wherever we have significant deviation from the benchmark in terms of our portfolio weights, we make sure that the assumptions behind that position are sound so that there are no surprises for the fund.

For an investor looking to enter the equity markets now, what would you recommend?

Assuming this advice is for the small investor, I would repeat the mantra of asset allocation. It is the basic thing that any investor should follow. There are no free lunches in investing, but this is as close to it as one can get.

For example, if the investors were already there in equity funds based on their asset allocation, they wouldn't have missed this initial rally.

For an investor looking at equity, I would say, the markets have run up, but still are not expensive in view of the likely future corporate performance.

The exposure to equities of your total portfolio is something you should be comfortable with and should be done through a mutual fund.

If you are doing it directly, however, have a portfolio of good companies which you know something about and can track diligently.

Is there a clear-cut dividend policy for your equity funds so as to help investors book profits before they evaporate?

We anyway sell our holdings or reduce our positions when we believe the stock is reaching its price target.

To that extent there isn't really a nexus between profit-booking and dividend payouts, in the sense that only dividends wouldn't drive profit-booking.

However, we do realise that equity investment should be rewarding for an investor and are considering a payout in the Growth Fund.

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