PPFAS Long Term Value Fund – An Initial Analysis

At a time when large global asset management companies are exiting India, like Morgan Stanley and Daiwa, 2013 saw a new entrant in Mutual Fund industry with Parag Parikh Financial Advisory Services (PPFAS) starting their Long Term Value (LTV) fund in May 2013. Mr.Parag Parikh is a highly respected value investor who started PPFAS in 1983 and has been running a Portfolio Management Service (PMS) since 1996.  In addition, he has authored couple of books on Value Investing.  I had an opportunity to listen to Mr Parag Parikh recently in Chennai  as part of his interaction with Financial Advisors.

The Fund has doubled its AUM from Rs. 152 crores in June to Rs. 323 crores in December 2013 (as per their monthly fact sheets). While as advisors, we would like to see funds perform across market cycles, the track record of Mr. Parikh makes us take a closer look here to see if PPFAS LTV should form a part of our mutual fund portfolio in the first year of inception itself!!

Background& PMS Performance

While the fund itself is new, it is important to consider that Mr. Parikh has been offering PMS services for nearly two decades now.  Two reasons why they moved from PMS to Mutual Fund route for managing client money, according to Mr Parikh himself are due to

• beneficial tax treatment available to Mutual Funds under Income Tax Act and
• SEBI mandate increasing the PMS threshold to Rs25 lakhs

Before we look at the PPFAS LTV fund, let us take a quick look at the Cognito (the name of their PPFAS PMS) performance:

Source: PPFAS Cognito Factsheet (Sept 13)

The PMS has lagged the Indices significantly over a one year period (it trails the Sensex by 13.77% between Sept 12 and Sept 13). But over a five year period, the PMS has outperformed the indices by a good 5% and also carries a 18 year record.

The moot question is – why is the PMS performance relevant to us?

It is significant for several reasons – The investment philosophy and investing guidelines are similar for both the PMS as well as the fund and we would not expect Mr. Parikh and his team to adopt a radically different strategy for the fund.   Also looking at the portfolio of PPFAS LTV, it is interesting to note that 12 out of 15 stocks in the Nov 13 portfolio  are also a part of the PMS portfolio in March 2013 (the PMS discloses portfolios with a six month lag). Over the past six months where PPFAS LTV has disclosed the portfolio, they have been very consistent and have not made radical changes.

In summary – the PMS has outperformed the Indices over the long run, but has had a poor run in the past year.  The PPFAS LTV fund portfolio seems to be similar to the PMS.  Now let us look at the fund in detail to understand the investment philosophy and performance.

PPFAS LTV Fund – Investing Philosophy

The fund has several distinctive features

• Invest across financial instruments – Unlike most mutual funds, the fund and the management has stated that they would invest across the spectrum, wherever they see opportunities for long term investments. The money is spread over Indian equities (regular), Indian equities (arbitrage opportunities), foreign equity, money market/debt securities and cash
• Invest across companies – Again within equities the fund does not have restrictions by size (large/mid/small cap), industry or themes
• Small set of companies – Mr. Parikh has always believed in concentrated exposures to get maximum benefits. This has been backed up his investments in the Cognito PMS where he has generally held between 15-22 stocks. This philosophy has been extended to the fund as well
• Skin in the game – Mr. Parikh and the team have invested their own money in the fund they reveal the details each month

PPFAS LTV Fund – Performance

Let us now discuss the performance of the PPFAS LTV fund. The fund has listed CNX500 as the benchmark for comparison and it has really outperformed the Index.   As per the 31^st December fact sheet, the fund has given 11.24% returns from inception as compared to 3.33% returns from the CNX 500 Index – out performance of nearly 8% as compared to the CNX500 over a six month period!!

The right question to ask here is – Is the CNX 500 the right benchmark against which we should evaluate this fund?

Going by the investment philosophy of the fund, as there are no boundaries, the benchmark itself may keep changing!!   As Mr. Parikh has pointed out in their blog as well as in the KIM documents, this fund is unique in nature.  So it may not be feasible to compare it with regular funds.  However, an understanding of the current asset allocation will help us at least provide a basis for comparison.

Current Asset Allocation

(Source: Monthly fact sheets of PPFAS LTV fund)

The broad picture that emerges is that the fund has around 65% of the money in Indian equities (both core and arbitrage), 15-20% in foreign equity and between 12-20% in cash/debt market securities.

Portfolio Composition – Indian Equity

The 65% investment in equities is predominantly in small cap stocks. The investment has been made in different sectors with Banks/Finance firms making up 24% of the investments.

• The top five investments account for 29.17%. 
• The top 10 stocks accounts for 52.93% of the portfolio.   
• Top 3 sectors account for 56.82% of the portfolio

As per the latest Value research report, the average market cap of stocks is around Rs 2500 crores, which firmly places it in the small cap category.  While the portfolio reflects a strong “value-based” investing approach, several stocks like Noida Toll Bridge, Mphasis, Polaris Financials and Maharashtra Scooters have not had a great run over the past few years.  Of course, this could work in favor of the investor, when the cycle turns.  But the fund investors need to be patient and be ready for periods of underperformance as well.  (To be fair, at every juncture the fund management has pointed out that this scheme is suitable for only those with an investment horizon of at least five years)

Comparison with a typical balanced fund

Looking at the current asset allocation between equity and debt and also taking into account the predominantly small/mid cap equity portfolio, we tried to benchmark PPFAS LTV against our balanced funds with an equity flavor.  Taking into account the market cap of stocks, HDFC Balanced fund seemed to be most appropriate.  An evaluation of the returns showed virtually no difference !!

# – Returns from 28^th May 2013 (NAV data availability for PPFAS LTV) till 27^thDec 2013.

(Source – All NAV data has taken from the mutual fund company websites)

PPFAS LTV Fund has much lower standard deviation of 5.54% compared to HDFC Balanced’s 13.63%.  This means that in spite of holding more than 75% in equities, the volatility has been very low.  This goes on to show the stability of the stock portfolio.

Comparison with Equity Mutual Funds- Mid and Small Cap

When compared to pure small/mid cap equity funds the performance of PPFAS LTV lagged these pure equity funds.  But of course the international equity as well as debt/cash investments by PPFAS LTV does have an impact on the risk profile of the fund.

# – Returns from 28^th May 2013 (NAV data availability for PPFAS LTV) till 27^th Dec 2013.

(Source – All NAV data has taken from the mutual fund company websites)

In a Nutshell

PPFAS LTV Fund

• Follows a value oriented approach in building a portfolio of pre-dominantly Small and mid cap companies
• Have a diversified mix of assets from Indian equities, foreign equities and even a sizeable portion of debt
• Has low standard deviation of returns, comparable to many of the debt funds
• Takes concentrated exposure based on the conviction of the Fund Manager, a very different approach from most of the mutual fund schemes where there is generally a widespread diversification
• Looking to build an investment portfolio with long term horizon in mind rather than looking for momentum plays

Investment Recommendation

As always, we would suggest that Investors form a strong core portfolio of funds with exposure to high quality large and midcap companies.  Several established funds with an excellent track record of performance through economic cycles are available which would form a strong growth portfolio.

A fund like PPFAS LTV with high small and mid cap exposure can be only considered as a diversification opportunity for a normal investor.   It can also be considered for investment by investors who prefer value oriented investing approach.

As the performance is proven over time/economic cycles, this fund has the potential to be a part of the core portfolio of retail investors.