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Don't bet on value funds in a rising market

By Ashley Coutinho
June 15, 2015 11:14 IST
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In a growth market, these funds should not form more than 10-15% of your portfolio. Invest with a horizon of at least 5 years

In the second half of 2013, ICICI Prudential AMC started a series of closed-end funds based on the value theme, with a three-year lock-in. The rationale was that the market was polarised in terms of valuations and a lot of mid-cap and small-caps stocks were attractively priced.

Value funds aim to invest in quality stocks that are  priced below their intrinsic value. This typically happens when the market is trading at a price to earnings multiple (PE) significantly lower than its historical average.

This was the case when ICICI Prudential MF launched its closed-end value series. The situation is different now. Despite being volatile for most of this year, the market has risen about 40 per cent since the end of September 2013. Are value funds a good bet at this juncture?

Does value strategy work?

Value funds mostly underperform in a rising market, especially in a prolonged bull market when valuations have run up significantly. “Value funds do not participate in a frothy market but they do make up for the underperformance before and after these periods,” says Mrinal Singh, senior fund manager, ICICI Prudential AMC.

In a rising market, fund managers might find it difficult to find stocks that meet the ‘value’ criteria. This could restrict their investment choices considerably and force them to change strategy and invest in growth stocks. Those that closely follow the value model might have to increase their cash holding, increasing the underperformance during these times.

“Value funds might not be in a hurry to deploy capital if they do not find enough attractive  opportunities to invest. This could mean staying in cash for long periods,” says Rajeev Thakkar, chief investment officer, PPFAS MF, adding cash as a percentage of total holding could go to as high as 20-30 per cent in some cases. Cash holdings of above 10 per cent are frowned upon by financial advisors, as it could lead to significant underperformance in a rising market.

According to Manoj Nagpal, chief executive officer (CEO), Outlook Asia Capital, value investing typically works in mature markets like the US. “In a growth economy like India, these funds might lose out on alpha to other growth funds. That is one reason why value-based funds in India have historically changed their strategy in good times,” he says.

Dearth of value funds

Templeton India Growth Fund, which has had a 15-year-and-more history, is the only true-to-label open-ended value fund in India, according to experts. The scheme has given annual return of 16.9 per cent for a 10-year period, beating Sensex returns of 14.7 per cent. All the others are not pure-value funds.

For instance, sector observers feel ICICI Prudential Value Discovery Fund is not a pure-value fund and was labelled one only about a year before. “Since this is a niche strategy, we felt investors could have some inhibitions on investing in the fund if we labelled it ‘value’. However, the value strategy has worked for us and we have data to prove it works across market cycles. Once we had established a track record, we decided to position it as a ‘value’ product,” says Singh.

Quantum Long Term Equity Fund and PPFAS Long Term Value Fund are value-based ones. “We strive to identify companies that are mispriced but don’t shy away from investing in firms that are growing rapidly. For instance, our top holding is Google. It is considered a growth stock by many but is still available at attractive valuations,” says Thakkar. Funds such as Tata Equity PE Fund, on the other hand, take valuations into consideration before investing. Then, there are special situation funds, which partially follow a value strategy.


According to Vidya Bala, head of MF research at, value funds can be a part of one’s portfolio even in a bull market, provided the holding period is long enough to make up for periods of underperformance. The holding period for a normal fund might be three years but a value fund should be held for at least five years, giving the market ample time to discover or unlock the value of the stocks.

Since these funds have lower beta and standard deviation, they are less volatile than growth funds and are suitable for more conservative funds. “These funds are ideal for conservative or first-time investors, since the downside is protected,” says Nagpal.

Don’t use value funds as a standalone strategy and ensure it does not form more than 10-15 per cent of your portfolio, say experts. “To ensure a fund indeed follows a value-based strategy, its PE and price to book value should be 30 per cent lesser than the growth funds of the same fund house,“says Feroze Azeez, executive director and head of investment products, Anand Rathi Private Wealth Management.

Azeez believes it is a good strategy to invest in mid-cap funds that follow a value-based approach. “The idea of value investing is to lower risk. Since mid-cap funds are riskier by nature, the value-based approach will help reduce volatility. Also, a longer holding period will help such funds to grow, reducing their risk,” he says.

Bala feels investors should consider funds that are not labelled as value funds but follow a value-based investment philosophy, saying: “These can work well for investors, as there is flexibility to move out of the value strategy in a bull market.”

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Ashley Coutinho
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