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Investing in stocks? Minimise the risk

By Value Research
March 09, 2006 09:31 IST
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Anand Shah is Vice President, Equity Funds, Kotak Mutual Fund.

In an interview to Value Research, he shares his views on fund management and offers tips on how to select stocks. Here are some excerpts from the interview. 

On volatility and risk

You cannot escape the fact that equity is volatile; this is the nature of equity and one should not get worried about it.

But you have to differentiate between volatility and risk.

Risk would mean:

Are we getting into a wrong company? 

Are we getting into companies at wrong valuations?

Do we have stringent parameters set to ensure we are in the right companies and right managements at the right valuations?
These are the key issues one should consider.

The responsibility of the fund manager is to manage the long-term risk. Short term volatility is a part of equity and I don't think there is much to be done about that.

On how he manages risk

Depending on the specific mutual fund scheme, we decide on the sectors and market caps of companies.

After that, we look at how much to diversify. This is a function of how we see the markets going forward and the comfort level we have with individual stocks.

The risk comes when you have bought into a wrong company. To take care of that, we have frequent management interactions. We also check on all the stocks we own on a quarterly basis to see if there is any change in the business, its fundamentals or its management and whether that is taken care of in the valuation

On the difference between an opportunities fund and a contra fund

Contra investment is all about buying into pessimism. It's about investing in a company whose chips are down either because the fundamentals have deteriorated in the short term or the perception of the company or business is bad, which is actually far from reality.

Opportunity is all about buying into optimism, buying into businesses which are doing well and are expected to do better over the next three to four quarters.

This is in contrast to buying in contra, where the businesses are not expected to do well over the next three to four quarters.

On overvalued and undervalued sectors.

Each and every sector has been doing well.

Today, capital goods is one example of a sector that has moved significantly faster than others.

Given the kind of growth we are seeing in each sector, the valuations don't seem to be euphoric, except for a few sectors which are very small and insignificant -- like retailing which is at a very significant premium or probably sugar stocks which have been doing exceedingly well.

I continue to like metals as a sector. The engineering sector continues to be our largest holding across the funds. The third will be the banking sector.

On his stock picking strategy

We follow the bottom-up stock picking approach. Every stock we buy in our funds is there on its own merit.

Within each stock, we broadly look at three parameters:

  • The business
  • Its management
  • Its valuation
  • We call it the Business Management Valuation model. Within each of them, there are a number of other factors to consider.

    I think you can't measure all the sectors and companies on the same valuation strip. We use a number of tools like Discounted Cash Flow, Price Equity ratio, Price to Book ratio, and a host of others.

    On scouting for mid-cap and small-cap stocks

    The businesses we are buying today for our mid-cap fund are all potentially large companies of tomorrow.

    We have a single hypothesis when we buy mid-cap stocks; we believe the business opportunity and the management capability has to be so huge that it can eventually become a large-cap.

    In terms if stock picking, we follow the same model and parameters I mentioned above.

    It has become more challenging to find a winner after the market has rallied so much and so many stocks are doing so well.

    But as I said, we have bought every mid-cap with a vision that it will become a large-cap, so we don't have to churn frequently; we have more or less maintained our portfolio. In fact, today's portfolio would be almost similar to what it was six months ago.

    As a result, we don't have to constantly scout for new ideas; thus, the new additions to the fund are fewer.

    Earlier interviews of fund managers

    Value Research

     

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