Fidelity India Value Fund - Where's the Value?

In Jaunary 2010, Fidelity India launched its value fund targeting long term oriented investors. The launch of the fund was accompanied by a big campaign in which Fidelity tried to build up interest in Value Investing among Indian investors, by advertising it as being similar to bargain shopping, a talent Indians excel at.

The fund has now been in operation for about 4-5 months now. Ever since the launch of the fund, I have been eager to find out what kind of stocks the talented guys at Fidelity would buy. So, I decided to have a look at the portfolio using Morningstar India's excellent Mutual Fund screening service.

The Fidelity India Value Fund portfolio
The portfolio snapshot is available here.

Having a look at the portfolio, I felt that there is a big gap between Fidelity's grandiose proclamations of investing in value stocks, and the ground reality of what their portfolio actually looks like.

P/E Ratio of the portfolio
As is well known, the P/E ratio is considered to be a reasonably efficient way to identify whether a stock is a value investment or not. Purists (i.e. of the Benjamin Graham) would probably say that a P/E < style="font-weight: bold;">

The portfolio Price/ Prospective Earnings ratio of the Fidelity India Value fund is > 10. Given that the projected earnings growth of the portfolio is calculated at 16%, it is safe to assume that based on past earnings, the portfolio P/E > 12.

The portfolio's P/B is > 2x. The biggest component of the portfolio is Reliance Industries, which is trading at a TTM P/E of 19, and is also trading very close to its 52 week high. Another major holding is ICICI Bank, which is currently trading at a TTM P/E of 20. Infosys - another holding - trades at TTM P/E > 25.

As a value investor, the most important attribute is the ability to stay away from the crowd and invest in companies which are not being favoured by the rest of the markets. It is very difficult to understand how Fidelity believes that companies trading at P/E > 20 are stocks which are being ignored by the market, and hence worthy of being part of a Value Focused Fund. (It is to be noted that these P/Es are not high because of a low base effect, i.e. low earnings last year due to the global recession. These are Trailing Twelve Month P/Es, i.e. based on earnings in the 4 quarters leading upto March '10, when corporate India has recorded bumper profits, which means that the high earnings are already factored into the stock price).

This double-speak is wide-spread
This fund seems to be following a pattern that is seen across fund houses. Frequently, MFs start new funds, claiming to follow different themes like Infra, PSU, Contra, etc. However, at the end of the day, the portfolios of these funds are remarkably similar. I was surprised to see, for instance, that Reliance Infrastructure Fund, which raised several hundred crores claiming to invest in India's infrastructure opportunity, was investing in bank stocks. The rationale: since banks are lending to infrastructure companies, they are also part of the infra story, and hence are well suited for an infra fund.

The only word of advice this humble investor would like to give is that one must be very cautious of fund houses and their gimmicks. It is better to invest in index funds than to fall for such tricks.

Bruce Greenwald on Value Investing in India

Bruce Greenwald is a Professor at Columbia Graduate School of Business & a director of FirstEagle Funds. He currently occupies the professorial chair which was once occupied by Benjamin Graham at Columbia. He conducts an extremely popular course on Value Investing at the school.

He academic background:
BS, Massachusetts Institute of Technology, 1967; MS, MPA, Princeton, 1969; PhD, Massachusetts Institute of Technology, 1978

A couple of years back he did an interview with Outlook Profit, in which he discussed some of his investing principles, as well as taking up some Indian case studies.

The full interview (Courtesy Outlook Profit) is below:

BruceGreenwald Interview


Some of the key takeaways:
Value Investing has outperformed the market by 3-5% historically.

Valuing companies by using the Discounted Cash Flow model is very risky according to the good professor. He believes that the process of estimating future cash flows is highly error prone, as there are a lot of assumptions to be made. Hence, the scope for errors increases.

Invest only in companies with sustainable competitive advantage, as otherwise it is only a matter of time before others will enter the industry, and hyper competition will put downward pressure on margins.

ICSA India Ltd - Value Pick From Indian Value Investors (IVI) Unit of HBJ Capital

ICSA India Ltd - Value Pick From Indian Value Investors (IVI) Unit of HBJ Capital

Value Investing in Large Caps

The 'Intelligent Investor' by Benjamin Graham has often been called the Bible for Value Investors. In an earlier post, I had mentioned it as one of the must-read books for value investors. The link to that post is available here.

In this book, Benjamin Graham has laid out in great detail why investing in large cap stocks going through a temporary difficulty, is a low risk way to achieve good returns.

In his own words:

"If we assume that it is the habit of the market to overvalue common stocks which have been showing excellent growth or are glamorous for some other reason, it is logical to expect that it will undervalue — relatively, at least — companies that are out of favor because of unsatisfactory developments of a temporary nature. This may be set down as a fundamental law of the stock market, and it suggests an investment approach that should prove both conservative and promising. The key requirement here is that the enterprising investor concentrate on the larger companies that are going through a period of unpopularity. While small companies may also be undervalued for similar reasons, and in many cases may later increase their earnings and share price, they entail the risk of a definitive loss of profitability and also of protracted neglect by the market in spite of better earnings. The large companies thus have a double advantage over the others. First, they have the resources in capital and brain power to carry them through adversity and back to a satisfactory earnings base. Second, the market is likely to respond with reasonable speed to any improvement shown. "

In essence, Graham is suggesting that investing in large cap companies going through difficulties (i.e. quoting at low p/e multiples relative to their usual valuation & relative to peers), is a good strategy. Large caps have greater resources and hence are unlikely to go bankrupt. Hence, by virtue of mean reversion, large caps are likely to reward the patient investor. Also, large caps are typically more diversified and hence a problem in one division/ product/ geography may not be large enough to drag down the whole firm.

Small and mid caps on the other hand, have lower capacity to face bad times. Hence, in the event of a recession/ fall in earnings, they are more likely to suffer higher erosion in earnings, and hence greater fall in stock price.

Some of Warren Buffett's greatest gains have come from exactly this strategy. For eg: his investments in Coca Cola, American Express, Washington Post, etc. I will post case studies on some of these investments in future posts.

Standard Chartered IDR: Known unknowns

Sandip Sabharwal, used to be the fund manager of the blockbuster SBI Magnum Mutual Fund, and made quite a name for himself by beating the benchmark indices for many years. He is currently the head of Portfolio Management at Prabhudas Liladhar. He is an IIT Delhi & IM Bangalore Alumnus.

He has an interesting post on his blog discussing some of the risks of investing in the Standard Chartered IDR. The post is available here.

In his view, the currency risk of investing in an instrument whose price is likely to closely track the performance of a stock listed on the London Stock Exchange is the biggest risk. Also, he points out that IDRs will receive differential tax treatment, and will attract both long term and short term capital gains tax. Unlike a common equity share, which does not attract long term capital gains tax in India at present, the Standard Chartered IDR will.

I would like to add another line of thought to the discussion. Unlike Unilever, Siemens and other MNCs which have listed their local subsidiaries in India, Standard Chartered has chosen to list a Depository Receipt, which is essentially equivalent to one-tenth of a share of Standard Chartered Plc, an entity which is listed on the LSE & the Hong Kong Stock Exchange. Unlike other Indian bank shares, the IDR is exposed to 2 major risks. The company stands exposed to the UK economy which is yet to fully emerge from the Great Recession, and which is staring at many years of tough economic reforms. This is likely to keep UK stocks depressed for the foreseeable future.

Also, the bank is listed on the HKSE. Hong Kong, by virtue of its exposure to the Chinese economy, is highly vulnerable in case the Chinese economy slows down, as a consequence of Government moves to calm the country's real estate market.

At the end of the day, the IDR will move in tandem with the shares of Standard Chartered Plc in LSE & HKSE.

Value investors would be well advised to keep these factors in mind before investing in the IDR.

Ajay Piramal's Value Investment

Ajay Piramal - the Chairman of Piramal Healthcare, is all over the news today for selling off the formulations business of his company to Abbott Labs for a mind-boggling valuation of USD 3.7 bn.

As I read about the deal, and the evolution of the company, I was struck by the similarities between value investing, and the approach taken by Ajay Piramal in building and then selling off the formulations business of his company.

Key takeaways:
Buy business only if they are available at a Margin of Safety: In 1988, when Piramal entered the formulations business, the company had a market cap of Rs 6 cr. Piramal came from a family with interests in textile manufacturing, which was under severe strain due to the strike by mill-workers led by Datta Samant. Piramal bought over the formulations business from Nicholas India Ltd. (an Australian firm which was exiting India). As such, he got the business at very cheap valuations, apart from getting an established business which he could grow.

Adopt a Contrarian Approach:At the time Piramal entered the business, the market for branded generics in India was very small. Major Indian pharma companies preferred to tap into the export opportunity, i.e. exporting generic drugs to developed markets.

When Valuations get very high - Sell: Abbott Labs offered 9x the Annual Sales of the formulations business of Piramal Healthcare, which was much higher than the 4x offered to Ranbaxy by Daiichi-Sankyo. The EBITDA multiple for the deal is 30x, as against Ranbaxy's 22x.


Ajay Piramal's patient investment in his company has provided a compounded annual appreciation of 44%, a record which even Warren Buffett would be hard-pressed to match over such a long period.

When Blacksmiths made more money than Gold Miners

Gold was discovered in California 1848. As news spread to the rest of the United States, huge numbers of people rushed to the state to try their luck at making a fortune of a lifetime. Once they reached California, they set about buying digging equipment like pickaxes and shovels. (Mining at that time was highly primitive).

The initial prospectors discovered gold and their success attracted even more prospectors wanting a piece of the action. Eventually, there were so many people digging around the state that the amount of gold individual prospectors struck was meager. The riches had gotten fragmented due to the huge competition among people vying with each other.

However, two sets of people became very rich due to the Gold Rush. The blacksmiths who made the pickaxes and shovels found themselves unable to meet the demand from those out on the field. They prospered as a result of the seemingly never ending demand for their wares.

The other set of people who got rich were landowners who happened to have the good fortune of owning land around the sites of the mining. Their holdings skyrocketed in value, and created some great fortunes.

Applying this Idea in Modern Times
The reason for mentioning this story in this blog is that it holds a great lesson for investors. For example, the power sector is among the most promising sectors in the Indian markets today. However, competition is so great today, and the valuations of power companies are so high that investors may not really enjoy healthy returns. However, there are segments of the industry which may just provide better returns.

For example, while there are huge plans for setting up power plants in the country by the likes of Tata, Adani, Lanco, Reliance, etc, most of them will probably end up buying equipment from suppliers like BHEL. As is well known, BHEL's current order book is currently overflowing.

Further, as huge power capacity comes up, there will be demand for laying cables for transmitting and distributing this power. There are very few well known companies manufacturing cables. Finolex Cables & KEC International are among the better known names in cable manufacturing. Finolex trades at TTM P/E of < style="font-weight: bold;">Why this Strategy Works
Big investors with the ability to incur large capex are incurring expenditures to put up huge plants which will begin to generate revenues in 3, 4 or 5 years from now. Till then investors will have to be patient with their return expectations.

However, the "pickaxe" players like BHEL & Finolex will get their money upfront (or at least part of it) when they receive orders. These company use these upfront payments as working capital for their manufacturing operations, which helps them to reduce their borrowing.

Tata Power, Adani & Lanco - meanwhile - have to repeatedly visit their bankers and the capital markets to raise more and more money to spend on their capital expenditure. Eventually their plants will start to produce power, but by then the markets will begin to value them at lower multiples (which are typically associated with utility companies).

Value investors would be well advised to think of the blacksmith, the next time we go prospecting for Gold mines.

Mere Pass Warrants Hai (I have got warrants issued from company)

Often we come across a term called Warrant .Not the typical Bollywood movie J arrest warrant where in the cop says to the villain mere paas tumhara arrest Warrant hai J but the financial term Warrant

A warrant is the right but not the obligation to buy or sell a certain quantity of an underlying instrument at an agreed-upon price.

For years this instrument has been used by smart promoters to pockets millions. It’s a Double edge money making instrument for promoters to use as per market directions.

Every second person down the street has become an analyst. Many to a certain extent shout their view and express their opinions as to the direction of the market ↑or↓.Thanks to flair for speculation not, many a times we hear anybody saying market will move sideways. If a normal person can say this with such high degree of confidence, I m sure the person who is running the company (Promoters) can say this with high accuracy for his company stock.

Let’s say I am a promoter of the company and I predict the stock prices have reached its peak as per rough estimates. I can use this instrument at my disposal. Sell a major stake at higher prices with an intention to buy back the same stake at the lower prices by the way of issuance of warrants.

The same can also be used when I expect a major growth in business and anticipate a sharp rise in the stock price. All I have to do is issue warrants at lower prices and increase stakes and then sell it at higher prices.

Retail investors should beware of this deadly instrument which can be used by promoters in a falling market or a rising market. The end result remains the same they make $$$$$$$ money Honey!

-Team IVI

Value Traps

Investors searching for value opportunities sometimes encounter a dreaded creature known as a 'Value Trap'. These so-called 'cheap' stocks appear to be valued very cheaply, but end up moving sideways for years on end, and never deliver superior returns. In this post, I will try to explore a few of the characteristics of 'Value Traps'.

Low P/E or P/B Trap
Companies trading at low multiples are probably trading at that valuation for a reason, which could range from low growth prospects, declining industry, hyper competition, high debt, etc. Some of these features are insurmountable, and hence the company/ industry might destined to remain at low multiples. Investing in low P/E companies is thus advisable only in companies with sound fundamentals, and is likely to lead to disappointments if followed as a mechanical strategy.

Lack of Catalysts
This is a follow-up to the previous point. Companies trading at cheap valuations usually do so for a reason. The way to get out of this is for the company to have some catalyst which leads to a re-rating of the stock. Catalysts range from launch of new products, a breakthrough R&D success, consolidation, deleveraging, etc.

Without a catalyst, a company is likely to remain cheap. It is when the catalyst is realised, that the company attains momentum in earnings, and catches the attention of the rest of the street. Anticipating potential catalysts and waiting for the company to harness them is what separates the value investor from the rest of the investing/ speculating community, and often leads to the best returns.

Low Proportion of Free-Float
Often, the best trigger for a re-rating of a company is when buzz starts to build up regarding a change of management through a takeover, merger or a management buy-out. Typically, in such cases, the market is frustrated with the management's inability to push through changes which unlock value. When a takeover opportunity appears, the market laps up the company's shares in the hope that new management will be able to change the fortunes of the company.

However, the above usually works when a significant proportion of the company's shares trade in free float. Incumbent managements and owners are normally reluctant to relinquish control, and it often comes down to an acquisition to unlock value. However, companies with high insider ownership can try to scuttle such takeovers by blocking it using their voting rights.

This prevents any re-rating from taking place.

52 Week Lows List throwing up a lot of Well-known Companies

In an earlier post, I had mentioned that the 52 week low list might be a good source of ideas for value investors. In fact, I had mentioned that some famed value investors like Mohnish Pabrai use this list as one of their most important sources of value ideas.

Of late, my 52 week low RSS Feed has been throwing up a number of well-known names. Some of these names are in the table below:

Stock Recent Price 52 Week High 52 Week Low
Balrampur Chini Mills Ltd. 75.00 167.30 71.95
BSEL Infrastructure Realty Ltd. 12.59 28.00 12.30
Tanla Solutions Ltd. 42.30 87.50 41.50
Reliance MediaWorks Ltd. 199.85 463.50 195.45
Tata Teleservices (Maharashtra) Ltd. 22.30 41.80 22.40
Bajaj Hindusthan Sugar & Industries Ltd. 17.65 42.95 17.15
ICSA-India Ltd. 21.55, 229.90 15.65
Kirloskar Brothers Ltd. 334.25 370.0 225.25
Gujarat Ambuja Exports Ltd. 16.40 36.20 16.20
Zee News Ltd. 14.75 20.85 14.60
Asian Hotels (North) Ltd. 500.55 700.30 267.70

Given the prevalent bearish sentiment in the markets due to the Greek Debt crisis, the markets have been increasingly volatile, and many good stocks have been laid low. It is worthwhile to investigate the companies in this list to look for prospective turnarounds.

The 52 week low list is a great place to find ideas for further investigation.