India is back in the spotlight as an investment destination due to the revival in global growth and the ongoing impact of a series of politically-led internal economic reforms.
Neptune India Fund manager Kunal Desai believes the next phase will be a big recovery in Indian corporate earnings, especially for those companies exposed to the much-anticipated transition in India’s consumption patterns.
“Arguably over the last three to four years, the story for India had been more political and macro. It’s now turning from a macro story into a micro story. I believe the next 12 to 18 months will be about Indian companies beginning to see super-normal profitability,” he says.
And Desai has more than just wishful thinking to back his views. He’s been running the Neptune India Fund since 2012 and during that time the fund has been ranked in the top quartile in terms of cumulative performance, according to Investment Association sector rankings.
“In the three weeks after demonetisation, more than 30 million bank accounts were set up. That’s half the population of the UK in just three weeks.”
In the first quarter of 2017, the fund placed third in the top 10 UK performing funds, produced by data provider FE Analytics, after returning 17.2% during the period and 6.74% in March alone.
Not a bad effort for a fund manager running his first fund.
Living the dream
After graduating with a first-class degree in Economics and Management from Oxford University in 2009, Desai spent six months working in India as well as doing a few internships before deciding he wanted to run a fund which invested predominantly in India.
“That’s where my passion and interest is. So I came to Neptune and there was an opportunity here to do that.”
Desai joined Neptune in July 2010 as an analyst before taking over the asset manager’s India fund in December 2012.
“As an analyst, initially working on technology and telecom stocks globally, and working with other members of the investment team who are very experienced, I began honing what I thought my process would be – the way I thought about companies, business and the way in which I wanted to manage the fund,” he says.
As Desai describes it, when he took over the fund manager’s role, he suffered a baptism of fire when, in 2013, the US Federal Reserve decided to cutback on its quantitative easing policy, sparking what came known as the Taper Tantrum, which caused many emerging markets to experience rapid falls in stock and bond prices.
However, Desai says: “I think that was massively helpful for me because you learn a lot about how rigorous the process needs to be, how you think about companies and what you’re looking for.”
In the end, he says, 2013 turned out to be a fairly miserable year for the fund, though this was followed by a strong 2014, a poor 2015 and finally a recovery last year.
“Not great, but not terrible,” was how Desai describes 2016.
A bucket list
“This year has had a very strong start. So really the fund has outperformed, or had good performances across the cycles, which I think is pleasing,” he says.
To get that result, Desai says he has used a unique, albeit largely bottom-up, investment approach.
“I think about my portfolio as having three buckets, and they have no correlation with each other.”
The first of Desai’s buckets is “structural growth”, which contains free cashflow generating businesses, such as healthcare, media and makers of fast moving consumer goods.
The second bucket is “economic recovery” plays – companies that have typically invested a lot in their businesses, like infrastructure firms and wholesale banks. Desai looks for utilisation to show signs of picking up.
The third bucket is “self-help” or “turnaround” businesses – those that are doing something very different from what the consensus thinks, and here he includes Infosys and the conglomerate Mahindra.
To get his final portfolio together, Desai starts with a universe of 5,000 stocks that have exposure to the Indian subcontinent. He then screens them for liquidity, focusing only on those with a market cap above $250m, which reduces the total to around 530 stocks.
“Then I strip out the companies with the worst accounting quality and corporate governance,” he says. This produces a watchlist of 100-120 stocks suitable for each of his three silos. Finally, he reduces this list to 30-50 stocks for his fund by analysing the performances of the individual companies.
The process has produced a fund with a sizeable 24.2% weighting in financial stocks, 16.5% in consumer discretionary companies, 13.9% in materials firms and 13.4% in information technology.
