Part I: How fund managers help you make money
In the second part of this interview with Value Research, Sandeep Kothari, fund manager for Fidelity Equity Fund and Fidelity Tax Advantage Fund, talks about Peter Lynch and his investment principles.
He believes that it is hard work, their understanding of a company's business and an intellectual interaction with company magagements is that gives Fidelity the edge over competition in India.
Speaking about the heightened volatility in the Indian markets, Kothari says, "India has become a mainstream market and the expectations from India are high. Therefore, if it doesn't deliver on the expectations, the volatility could be much higher."
Being in the markets since 1993, you have been through a period where we had these great companies which suddenly became illiquid. How much does that scare you today?
We talk about companies which one didn't hear of. We seem to be back in the old times. A lot of it may be scary, things like cooked books, and cooked stock prices as well. Definitely, that's a big challenge. But you have to emphasise upon what the management's track record is, and probably the association since 1993 gives that much more insights into what the management track records are.
A business does not operate in a vacuum. It relates, transacts and deals with lot of external parties. When we are taking a reasonable position in a company, we conduct an absolute 360 degree analysis -- what's the track record of this person, what's the execution capability etc. I understand your concerns. We did see in 1995 that lot of these names become very illiquid when the business cycle turned. But see, even some of the good companies will get caught in the business cycle.
So you have to stick to your basic principle and analyse what drives the profit growth, what is the opportunity, where the business is positioned, what's the execution capability of the management. An opportunity could be great but can the management execute that?
Then you weigh the kind of liquidity risk that you want to take, because if the business cycle turns, obviously liquidity is going to be a huge problem. Based upon this, you take a call where there are probable gains and make your investment decisions. See, there will be cycles. We saw one in 1995. But hopefully, this time around it won't be that bad if it occurs. This is because there is more institutional participation now. Moreover, in this bull-run, you haven't seen one pied piper or just one sector carrying the entire market.
You don't see those kind of excesses visible here?
Right now, no. In hindsight, maybe three years on, we may realise that indeed there were excesses. But the fact is that we have been in a global business cycle, which is extremely strong. I mean, just look at the growth opportunities, the demographic dividends, the investments which are happening. See, you have to take a view on the risk-adjusted returns.
For example, there's a company, say X, which is large and liquid, which gives you a 25 per cent return. But a Y company, which is less liquid, gives you a 100 per cent return.
Now you have to take a call on the risk-adjusted returns. If you have confidence on the 100 per cent-return company, after doing your homework, that the opportunity as well as the execution capabilities are there, then you may go for it. There is no one right answer to this, but I won't be scared by thinking that what happened in 1995 will happen now.
If you are worried that the business cycle is turning, then you look at execution capabilities much more intensely. You should not be in those businesses that can be hurt by the downturn, and that is how you try to balance the risk-reward. But running away from the market altogether is not a luxury that I have. I get money to invest in the equity market and I have to remain invested. I don't take cash calls, except for the fact that if something is really over-valued, I sell it and am happy to wait till I find an idea.
With the combined capability or scale of your offshore allocation to India, as well as your domestic funds, does it give you any advantage in terms of access to management, a quasi-insider kind of privilege?
No, no, it does not. And I don't think we can make money by getting insider information on a long-term basis.
Ultimately, you need to have your valuation framework right because the market is much smarter. Moreover, at Fidelity we are very, very strict about these aspects. What helps is the Fidelity brand name. People and companies like Fidelity as an investor. So it is easy if I am calling up a corporate. But that doesn't mean the corporate will go out of the way to give me something, or I will seek something.
I'll tell you what gives us advantage. If you have a reasonable understanding of somebody's business and go and meet a management after you have done your homework, you develop a good rapport.
The Fidelity name gives you that acceptability that these people would have done enough homework. And then if you demonstrate this in a meeting and you interact at a good intellectual level with them, then the discussion leads you to better conclusions, not necessarily information which won't be given to public.
And then it is up to us to do the hard number-crunching, because you just can't build castles in air. But if you have had a good understanding of the businesses, it is easier to take a call on those numbers. So you have to do your hard work, whether you are Fidelity, or anybody else.
What is the most alarming thing that you see in the market today?
India has become a mainstream market and the expectations from India are high. Therefore, if it doesn't deliver on the expectations, the volatility could be much higher. Volatility would be something which one should be most wary of.
What are the excesses that you see in sectors? Is there any sector which you will not touch right now?
I won't call it untouchable, but we did stay away from property in this entire period. I am not saying property as a sector does not have any future; it is not a dotcom which will go bust. We all need housing. Go to Mumbai. The shortage of good office space is immense. Earlier, it was a very unorganised sector but now it is becoming an organised one. But things like the valuations, how good an understanding you have of what you are buying, are what kept us away and that fortunately has worked well for us.
Any sector for which you are developing a favourable bias?
The capex (capital expenditure) and infrastructure investment cycle, I believe, has long legs to run. So that is something which we are overweight on.
Any Peter Lynch principle which you followed and which led to investment idea in India?
Oh, I've been a big fan of Peter Lynch and I've read whatever he has written. If you look at the Fidelity philosophy, it's pretty much engrained in that bottom-up stock-picking approach. We try to think of ideas that are scalable, that are simple. That philosophy runs through the research process.
The original interview appeared in April 2007 Issue of Mutual Fund Insight.
