"If the risk parameters are strong, rest assured the fund manager will do a decent job." - Naresh Kumar Garg
3/8/2012 9:00 PM Thursday
What has been your basic investment philosophy and how do you go about picking up stocks and building portfolios?
Our basic philosophy has always been to build portfolios based on fundamental analysis and risk management. As you would know most of the mid-caps are generally higher risk bets and the beta of mid-cap stocks is normally more than 1. But in case of our mid-cap portfolios you would see that since day one the beta is less than one. So the focus is always to look at real fundamental factors. As far as fundamental factors are concerned, I would like to differ with some of the analysts. They basically look at numbers. Numbers definitely matter, but we give a lot of weightage to management qualities.
So according to you management quality is more important than anything else.
According to me it is one of the major components of fundamental analysis. This is because we believe that if the management is good, even an ordinary business will give a decent return to the investors. But if the management quality is not good even in an excellent business investors will not get much returns. So, that is one thing that we definitely filter out.
So how then do you narrow down your decision of picking up a particular stock?
For us there are no momentary decisions. The entire focus of our organisation is based on the research that we conduct. We put a lot of emphasis on that and the same is in turn reflected in our portfolio holdings too. Our method is that for every stock that we hold in our portfolio there will always be two stocks which are fully researched and available for investment. This ensures that we are never short of ideas in case we have to decide on selling a counter as to what should we be buying. We follow a strict investment discipline. We have clear price targets based on the intrinsic valuations and other parameters. If, let us say, a stock is nearing our target price, we re-evaluate the factors surrounding the stock and if the changed factors call for a resetting of the target price, we do it. But if there is no change in factors and still the stock is running away, I will not hold on. We will sell it at our target price and invest in something else. This is one of the reasons, that despite a much lower beta we tend to outperform.
Tell us briefly about your research methodology.
Our investment functions have Chinese walls. Fund management is separated from dealing, dealing is separated from research, etc. So, there is no ambiguity or there is no conflict of interest at that level. But we do share information. So various ideas come from various quarters and then we draw down from various inputs and arrive at a consensus. We find out what is the business risk and what is the financial risk. We avoid those companies where both the risks are higher. Also what is important is management meets. More importantly we make sure that our analysts meet various people and more so people on the shop floor. It is about meeting the people who will provide you with the correct and unbiased input. Not just the IR person who will share only what the management wants you to hear. In fact if an IR person is coming, I virtually tell my colleagues not to meet them. We tend to see how the company is trying to get cost efficiency, how they treat their people, how they are treating their product and also how they want to grow. A lot of this input comes from production managers, some comes from workers and this is very much an important input from our point of view.
What are the triggers that prompt your entry or exit in a stock?
As I mentioned, we always keep a universe of investible options with us. These are based on different parameters and different strategies. See, finance, people think is a complicated subject, but it is an interesting subject. If you condense it in a simple form it is really very enjoyable and that is where our fund managers and research people excel. We condense that into risk versus return relationship. For instance consider a stock which is trading at Rs 100 today and our intrinsic valuation is coming to let us say Rs 150 then this is a potentially good stock. But here again we apply the probability of the stock going down to Rs 90. So the downside risk is the first thing that we would look at. After that we will consider the probability of the stock going up to Rs 110 or Rs 130. Based on all these probabilities which basically means that if the probability of the stock going up is almost double that of it going down then we would look at it. if it is the reverse case then we will not invest in that stock.
But all these are okay for professionals. What and how does a retail investor manage this?
All this can be achieved by using stop losses effectively. Unfortunately most of the individuals only talk about stop losses. If they implement the stop losses, I think individuals will also be able to achieve what I described above.
Being a part of fund management for so long, you must have experienced cases where your calls did not go as planned. What do you do in those cases?
Nobody in the world can assert that he/she has always taken a right call. Mistakes are bound to happen. However if out of 10, you are right eight times then it’s a decent performance. There are two aspects to it. Suppose if a stock has fallen out of nowhere and we still see a long term opportunity in it, we stick to it. However if we have missed on a key fundamental, the ideal option is to cut down on the loss and move on. That is why I said, while buying a stock also fix your stop loss trigger. The key here is to keep reviewing the stop loss situation.
Do you think the concept of “Buy” and “Hold” really works?
It indeed works and we follow it religiously. I am not saying that my 100 per cent portfolio is buy and hold. It is under constant review since I have my intrinsic valuation and clear price targets. Now assume that I have a price target in mind, which I feel would be achieved in two years. However if the target gets achieved in four months only, the demand of the situation is to re-assess my position.
Wrapping up the conversation, what would be the leading advice that you would like to offer to the investors?
I would say that invest rationally and do not be greedy because this is where most of the investors lose money. They need to understand the risk factors involved whether they are buying small cap or large cap stocks.
How to pick the perfect fund manager?
If you look at the top 10 scrips in a portfolio, a reasonable person would be able to tell you whether it is a decent portfolio or not. Past performances also have some bearing while taking a decision. However if I have done some good yesterday does not mean that I’ll do well tomorrow also. Ultimately my portfolio speaks for myself. Secondly look at the risk parameters of the fund manager. If the risk parameters are strong, rest assured the fund manager will do a decent job.
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