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  • 4 March 2016 / Outlook BUSINESS

    44

    Outlook BUSINESS / 4 March 2016

    4544 45

    PRASHANT JAIN/47HDFC Mutual Fund

    EDUCATION B. Tech, MBA, CFA

    YEARS AS FUND MANAGER

    22CAREER

    Prior to joining HDFC AMC, he worked with Zurich AMC and SBI Mutual Fund

    AUM (# CR)

    29,348RETURN IN %

    HDFC EquityHDFC Top 200

    RETURN IN %1-YEAR

    -5.593-YEAR

    13.785-YEAR

    7.9010-YEAR

    15.17

    WORST YEAR2008:

    -49.68/-45.35

    BEST YEAR2009:

    105.57/94.46

    PRASHANT JAIN VS MR. MARKETThe fund manager with the best track record is facing the heat as he treads a contrarian path

    SOUMIK KAR

    Interview-Prashant Jain.indd 44-45Interview-Prashant Jain.indd 44-45 18/02/16 12:38 AM18/02/16 12:38 AM

  • 4 March 2016 / Outlook BUSINESS

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    You are neither right nor wrong because the crowd disagrees with you, says Warren Buff ett. Instead, he says, it is the thoroughness of the analysis that really counts. Unlike most modern fi nance folks, for the best money manager in the world, standard deviation is no measure of risk, nor can risk be eliminated by simply diversify-ing the portfolio. Risk, he says, comes from not knowing what you are doing.

    Prashant Jain must surely be reminded of the Sage of Omahas words and wisdom as he goes through testing times at a stage in his career when he has nothing left to prove. He has to his credit the best 20-year performance track re-cord among mutual funds not only in the coun-try but also across the world.

    For instance, #10,000 invested in HDFC Equity Fund, managed by Jain since its inception 20 years ago, has returned #440,000 thats a CAGR of 20%. Over the same period, Nift y has re-turned #68,000, that is a CAGR of just 9.7%.

    Yet, being in the money management busi-ness, with custody of #30,000 crore of assets di-rectly under his management, he cant escape being judged on his every move. This is not the fi rst time Jain is facing the heat of underperfor-mance. Back in 2000, when he got off the tech-nology gravy train, and the market went berserk with tech valuations, he lagged behind for many months. Then again, his decision to back off

    N Mahalakshmi

    from the infra-led euphoria that was halted by the global credit crisis saved him pots of money only aft er he had severely underperformed in the months before January 2008.

    But this time, patience is being tested a tad more. For the fi rst time, his funds are strug-gling to keep pace with the benchmark over a fi ve-year period. Over the past fi ve years ending February 16, 2016, HDFC Equity Fund delivered a return of 6.43% versus 6.04% for benchmark Nift y 500 and a category average of 8.87%, while HDFC Top 200 delivered 6.02% versus 5.67% for the BSE 200 and a category average of 6.47%.

    There are several concerns. For starters, he has to contend with the winners curse of having to manage very large-sized funds. HDFC Equity Fund has assets of #14,470 crore and Top 200, #11,515 crore. That kind of size surely raises questions about how nimble-footed the manager can be in a shallow market like ours. You cant jump on to a bandwagon along with everyone else you need to be boarding much in advance because you wont get a chance to hop on in the nick of time with your kind of bulk. On the way down, its even worse.

    Of immediate concern though is Jains con-trarian stance that is the root cause of this pain. Jain has foregone his winning bets in the con-sumption space in favour of fi nancials and capi-tal goods that are currently under stress. His conviction stems from his earlier wins in 2000

    HDFC'S SIZE RAISES QUESTIONS ABOUT HOW NIMBLE-FOOTED CAN JAIN BE IN A SHALLOW MARKET LIKE OURS

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    and 2007, when he swapped market darlings for the unloved. With much caution, one is tempted to ask, if its diff erent this time because those are the most dangerous words in the stock mar-ket anyway.

    The diff erence between now, 2000 and 2007 is that the market is not as starkly polarised as it was during those times. There are surely regions of overvaluation and islands of undervalua-tion. Economy-oriented stocks have been ham-mered because of underlying stress, not because growth or future prospects in other pockets look earth shattering, making them cheap for no valid reason. Actually, part of the overvaluation in pockets is a result of stress in certain other pockets. While there is no way to make money in the market but to buy low and sell high, too early or too late can make a signifi cant diff er-ence to your returns. As youll hear him speak, Jain is expecting a recovery in 12 months and his portfolio is positioned to lead that transition. But thus far there is little evidence of that on the ground, and the market is not buying that argument yet.

    Ironically, what seems to be a big pain point today may turn out to be the biggest opportu-nity for outperformance. Astute stock selection has been the biggest driver behind Jain's re-turns thus far. But with his current fund size, he needs large calls that go right. Jain runs a fairly concentrated portfolio for a mutual fund his size. Contrarian calls on large stocks off er that chance for big outperformance.

    To his credit, Jain has demonstrated the most important trait for a fund manager rational-ity, and conviction to hold his own against the crowd. This simple, soft -spoken, embodiment of humility is not the one to run aft er the next new bet, but he goes for the tried and tested where the odds of success are relatively higher for the same level of risk. He is also the manager who has consistently got the better of Mr. Market the metaphor used by Benjamin Graham to de-scribe the manic-depressive, emotional business partner, who makes an off er to either sell his share or buy your share everyday which you are free to take or reject, for hell come back again the next day with a fresh off er. What you decide to take and reject is what determines your fi -nancial destiny.

    As we discuss his everyday quarrels with Mr. Market, the industrious Jain pulls out a sheet of

    paper with a list of leveraged corporates, which are either NPAs or stressed assets each bank is exposed to. It took me six months to prepare this. That hard work should surely bear fruit. Except that in market neither skill nor study is enough to win. A heavy dose of luck is an essen-tial part just as in life. Excerpts from a free-wheeling interview with Outlook Business:

    This is perhaps the fi rst fi ve-year period where your performance is barely matching the index performance. Does this worry you? Rather, should it worry your investors? Normally, 3-5 years is a reasonable time to mea-sure performance. But when market cycles are changing this may not suffi ce. For example, in 1999, if one wanted to preserve near-term per-formance one should have held on to IT stocks and not bought old economy stocks that were remarkably cheap. Again in 2007, if one thought

    from the near-term perspective, it would be very diffi cult to sell power or infra stocks and buy consumer, pharma stocks. When one feels that the market is moving from one theme to the other, you have to let go of your winning bets and buy something that is promising for the fu-ture. Till the time this works out, performance suff ers. And if your one-year performance is weak, it impacts the three- and fi ve-year perfor-mance as well. Fortunately, this is not the fi rst time I am facing weak performance. In 1999, we trailed competition by 60%. Why? Because aft er we sold Infosys, the stock doubled and so did the PE from 150 to 300. But when IT stocks fell, we more than made up.

    The NAV of HDFC Equity Fund, since its launch in 1994, has grown from #10 to #440 now. As you can see from the chart, there are peri-ods of underperformance in this journey. But

    IN 1999, WE TRAILED COMPETITION BY 60%. AFTER WE SOLD INFOSYS, THE STOCK DOUBLED AND SO DID THE P/E

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  • 4 March 2016 / Outlook BUSINESS

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    each time the fund has lagged behind, it has come back stronger and more than made up for the underperformance. For example, 2007 was a weak year for us as we stayed away from real estate, infra plays. Instead, we concentrated on FMCG, pharma and auto sectors. Today, the index is up some 20% and the funds NAV has nearly doubled. If to avoid underperformance in 2007, we had instead participated in infra, real estate sectors, todays results would not have been possible.

    Why are you betting on banks and capex? In my opinion, the pain is maximum in ca-pex and related businesses. Capex should grow faster than the overall economy. Consumption and export-oriented businesses represent high quality but, in my judgement, there are better

    opportunities elsewhere. Also, the risk-reward of large-caps appears to be better compared with small and mid-caps.

    You are not just buying shares that are underval-ued because the market is focusing elsewhere, but stocks that are actually under stress. Isnt that risky?Valuations are attractive only when there is pain. If there is no pain, why should valuations be attractive from a long-term perspective? The key is to fi gure out if the business can deal with the issues and come back to health over a period of time.

    When you look at fi nancials, you have to fi rst understand that there are two types of banks in India. The popular way of looking at banks as public vs private is not the most appropriate. In my opinion, corporate versus retail framework is more apt. SBI, ICICI, Axis Bank and several other public sector banks are corporate lend-ers, while HDFC Bank, Kotak Bank, IndusInd are predominantly retail banks. Both are good

    business models and if India were to grow, both should do well. But corporate lending is more cyclical; it goes through ups and downs with business cycles and in stressed times asset qual-ity issues can rise. This is what is happening today. Its not the fi rst time this has happened nor will it be the last such cycle. Way back in 2001, the situation was similar. As the economy improved, the stock performance did too. In my opinion, the same should happen this time.

    As economic growth improves, interest rates move lower, some assets are sold and banks pro-vide for impaired assets, things will improve. Also, there are chances that imposition of mini-mum import price (MIP) will work out favour-ably for the stressed steel sector.

    In any case, post asset quality review (AQR) by the RBI, banks have already recognised or will

    recognise stressed assets by FY16. Bank of Baro-da's managing director expects steady improve-ment in profi tability and has suggested that re-turn on equity should reach 15% by FY18.

    As Buff ett says, The future is never clear. You pay a very high price in the stock market for a cheery consensus. Uncertainty is the friend of the buyer of long-term values.

    Governments usually take the path of least resis-tance and can do unpredictable things that may not please the market. Although some public sector banks may look relatively robust, there are others that are under more stress. Is there an outside chance that the government may saddle better banks with bad apples that will only de-stroy value? In my assessment, while mergers cant be ruled out completely they are unlikely. But as I said, with the impact of AQR behind us, likely improve-ment in cash fl ows in the steel sector post MIP, asset sales by some leveraged corporates, and capital infusion by government should lead to im-

    IF THERE IS NO PAIN, WHY SHOULD VALUATIONS BE ATTRACTIVE FROM A LONG-TERM PERSPECTIVE?

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    provement FY17 onwards. That will pretty much take care of things.

    When it comes to banks, is the fact that stress will subside soon from balance sheets enough to bet on them? Do you see them growing? What drivers are you counting on?There is good value in corporate banks. Value is the biggest driver of stock price over time.

    If most industries are operating at less than 70% capacity, where is the question of expansion?I expect recovery to be visible within 12 months. Capex recovery will be led by infra capex com-ing from sectors such as roads, railways, power transmission and distribution, mining and so on. Manufacturing capex will take time because of overcapacity. But over the next few years, capex should lead economic growth.

    What is the risk to your analysis?Risk either comes from fl awed analysis or from lack of patience to stay the course when the market is not supportive, not from a contrar-

    ian view. We have taken contrarian bets in the past and we have been proved right over time. Time will once again tell if our analysis is right

    Is size becoming an impediment for HDFC Equity Fund? Do you have to time your entry much ahead or exit much before? In my opinion, this thought is an illusion that keeps on coming back for as long as I can re-member. In a universe of, say, 100 funds, there will be large funds and there will be small funds. When a large fund underperforms, it is noticed a lot more and the easiest conclusion is that size is to blame; when a small fund under-performs, it is simply noticed less and size can-not be blamed.

    Reality, in my opinion, is that there is no cor-relation between size and performance; any-one who feels this way should arrange all funds either in order of size or performance and the picture will be clear. Actually there are no large funds in India; the largest fund is less than 0.2% of the market capitalisation!

    SEVERAL OF JAIN'S BEST INVESTMENTS IN THE PAST HAVE BEEN CONTRARIAN

    STOCK MONTH OF PEAK HOLDINGAVG PRICE AT PEAK

    HOLDING(#) EXITEXIT PRICE /

    CMP(#) (X)

    BHEL Jun-04 50 Jun-08 276 6

    Aurobindo Pharma Dec-11 160 Held till date 876 5

    Titan May-09 50 Mar-13 256 5

    Reliance Industries May-06 427 Apr-09 1,806 4

    Glaxo Consumer Nov-07 713 Jun-11 2,403 3

    Maruti Suzuki Nov-13 1,475 Held till date 4,622 3

    BPCL Nov-13 304 Held till date 892 3

    P&G Hygiene Mar-14 1,989 Held till date 5,630 3

    Tata Motors DVR Nov-11 116 Held till date 289 2

    Hero Motors Mar-08 722 Jul-11 1,785 2

    Dr Reddys Mar-08 637 Aug-11 1,496 2

    Nestle Jul-07 1,183 Mar-10 2,671 2

    THERE'S NO CORRELATION BETWEEN FUND SIZE AND PERFORMANCE. ONLY, LARGE FUNDS ARE MORE NOTICEABLE

    Source: HDFC Mutual Fund

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    How do you expect the economy to perform over the next fi ve years?The Indian economy has experienced steady growth for the last several decades irrespec-tive of changing global and local conditions. Secular growth drivers like attractive de-mographics, rising purchasing power, low penetration of consumer durables, skilled and competitive manpower have fuelled this...