Expect success stories from unexpected places; multiple winners from smallcaps or midcaps: Anthony Heredia

To our mind, there will be success stories coming from many unexpected places and smallcap or midcap stocks and there will be multiple winners. Obviously it is a space that often contributes accidents as well but that is where professional fund managers hopefully come into play. The participation of the broader indices has been a bit tepid over the last three to six months but over the long term, say the next three to five years, we are pretty convinced that it is going to be a broad market led rally rather than just select stocks or select largecaps.

Large part of the earnings contribution of the key benchmark indices is actually overseas earnings. But if you look at the earnings contribution of the smallcap index or a midcap index, the largest part of their earnings contribution is domestic led and that is where the correlation of the domestic story of the economy is. How will your own fund house be navigating ideas in the small cap, midcap zones?
We already have a lot of experience navigating this zone because we run a bunch of multicap, flexicap funds. So smallcaps are not new to us. We have a lot of experience and more importantly when I look at the alpha generation across capitalisations within our multi-cap funds, the largest alpha generation has come from the smallcap ideas.

The way we would look at it is primarily bottom up but at the same time, there are sectors that are only represented by smallcaps and where there are some pretty exciting opportunities. These would include sugar, paper and textiles. Sectors where there is clear transformation is happening in terms of the way businesses are conducted are the biggest examples that one can give in terms of what impact smallcaps can have if they have conviction.

Just look at chemicals as a sector. Five-six years ago, every chemical stock was virtually a small cap. Today there are largecap and midcap chemical stocks. As the economy transforms over the next five-seven years, we will see this opportunity across multiple sectors but we look to capture that primarily through bottom up strategy.
This is a space where there are often accidents. We were looking at some data over the last five years. Three out of every four smallcap stocks delivered above cost or below cost value. So, it is one out of four that gives absolutely multi-bagger returns that ideally as a fund manager one would want to capture more often than not. That sums up our strategy. Bottom up, one can stay highly convicted in terms of the stock ideas and be diversified across the sector opportunity.

What about flows? The SIP flow data once again has touched a fresh high of Rs 13,000 crore. How do you see the trend? The trajectory of the flows from retail investors, HNI investors pretty much domestic investors because when you speak to your distributors and partners across the country and how are the situation of flows in your own fund also?
In our fund it is extremely good. Thankfully our fund performance has a lot to do with it and also obviously the distributor community is keeping their faith but within the net flow numbers of the industry, in the last three-six months, there is a hidden story which is that gross flows have held including the fact that SIPs have not just held but have actually grown quite decently. But redemptions are also up.

This suggests to me that the larger investors are taking a call to some degree to take some money off the table but that is a short-term phenomenon. The long-term trajectory in terms of flows remain fairly strong and it may not show up in net flow numbers. But because of the higher than usual redemptions, as long as our market traces new highs, I suspect we will see more redemptions.

But what I really focus on is the strength of the gross flow and I see no cause of concern. From a lump sum perspective, they are coming off but most of our distribution partners are telling their clients to invest through SIPs or invest through SIPs. If you have money to invest, stagger it over the next six to nine months instead of investing at one go. Hopefully that augurs well for flows over the next calendar year as well.

What is this investor behaviour telling us? When markets are at record high, one might as well take some money out. Some investors are also trying to time the market and what is the message you would give out? What is the benefit over the long term, if there is any?
It is human behaviour. Every time we see a new high, we start thinking about our equity portfolios and wondering whether this is too good to be true; one cannot change that. It is tough to remember that equity continues to pay over the long term. The interesting thing in terms of investor behaviour is this; 10 years ago, if markets fell people would panic and redeem. Two or three years ago, if markets fell, we would actually see record gross sales on that day. If markets fell 2-2.5% for whatever reason, we would have record sales.

Interestingly, in the last three to six months I do not see panic reactions either way. I think that is another example of investor awareness and behaviour going to the next level which is markets will keep going up 1 or 2% sometimes, it is important not to overreact.

For larger investors, it is really difficult to make a call because one does not know whether they are redeeming because of a market view or they are just reallocating to other vehicles like AIFs or direct equity and so on. I do not see too much pressure on that side.

My message to investors would be to think of the potential India economy in 2030, think of what that GDP looks like. Obviously market caps always trace GDP. It is fairly easy math to figure out that if our GDP theoretically is going to be $5-6 trillion in five, six years from now, what our market cap will be and whether it makes more common sense to stay invested to capture that journey or not. I think the clear answer would be to stay invested.

If somebody wants to take an eight-ten-year view, how do you see the earnings quality of Indian corporates? If one takes a blended or multicap portfolio, is 12-13% earnings growth conceivable over a 6-8-10-year period?
I will ask a counter question. Are you convinced the Indian economy is poised to grow at 5-6% over the next seven-eight years? If the answer to that is yes, if for argument’s sake, inflation will always remain at 3% or 4% in an evolving economy like ours, that takes it to 10$. Does the corporate have the ability to generate earnings which is a little better than what the basic economy provides and add 2-3% to that you? Then you will get your 12-15%.