Equity investors had quite a ride in FY18. The first nine months were a relentless rally, followed by a sharp fall in the last three months. Yet, the benchmark Sensex index managed a return of around 10%. For several active mutual fund managers, outperforming the indices in the financial year proved to be a hard ask. And it wasn’t easy for portfolio management services (PMS) either, despite their smaller and more focused portfolios. PMS schemes are seen to have an advantage over mutual funds as portfolios are individually managed.
What data tells us
Not all schemes fared well. One of the more popular PMS portfolios, Motilal Oswal IOP, a mid-cap portfolio with around Rs4,600 crore assets under management (AUM), gave 4.79% in FY18; BSE Sensex delivered 10.25%. Its 5-year annualised return at 23% compared to 12% from the Sensex, however, underlines its long-term track record. Old Bridge Capital Management’s All-Cap portfolio, a multi-cap scheme launched in August 2016, gave 38.7% in the same period. While both portfolios aren’t comparable, investors can choose either.
This divergence in performance is an example of what can happen with equity returns in any given year, depending on external factors and the manager’s stock picking style.
“IOP (1) gave 59.57% absolute and excess return of 23.11 % (model portfolio) in FY17. This performance, and the euphoria in the mid-cap space resulted in lot of new flows within a short period, which led to some excesses in valuations. Price corrections in the latter half led to some mean reversion. Earnings growth expectation from the portfolio remains intact going forward, and hence we are not changing anything at the moment. One has to ride through volatility as conviction gets tested. Neither was 23.11% alpha real, nor is 5.46% negative alpha real, it has to be seen over longer cycles,” said Manish Sonthalia, CIO and head equities-PMS, Motilal Oswal Asset Management Co. Ltd.
We looked at FY18 returns of 22 PMS schemes, including some of the largest in the industry, representing about Rs40,000 crore in AUM (about 40% of the industry), from 11 different managers.
Out of 16 multi-cap portfolios, 13 outperformed the 12% average return of multi-cap diversified mutual fund schemes in FY18 and NSE 500’s return of 11.5%.
What’s driving performance?
Though a single year’s return can never show the complete picture in equity, it is worth dwelling on what happened in FY18.
“In the last year or so, value managers have done well, those who focus on high quality and compounding growth lagged. Sectors which did well were missing from many portfolios, several active managers were caught by surprise and are playing catch up in this cycle of the market. Investing in PMS is about picking a style and sticking to it,” said Ashish Shanker, head-investment advisory, Motilal Oswal Private Wealth Management.
Most PMS managers use a model portfolio. Hence, the manager’s style reflects across portfolios. While some managers look at business cycles for opportunities, others look at high growth stocks.
Rajesh Kothari, founder and managing director, AlfAccurate Advisors, said, “We focus on buying companies that meet our 3M investment approach—market size, market share (prefer top 5 companies) and margin of safety (valuation). Risk management through adequate diversification is a must.” Over the last 5 years, Kothari has delivered 29.5% annualised return, net of expenses.
“We run a buy and hold strategy and look for opportunities where, thanks to either a cyclical downturn or other factors, the value of a stock is eroded. The company should be of sound management quality, industry leader with low leverage and the ability to scale earnings once the cycle turns or demand returns,” said Kenneth Andrade, founder and chief investment officer, Old Bridge Capital Management.
ASK Investment Managers’ business head and chief investment officer Prateek Agrawal, said they look to pick high quality, high growth businesses at a reasonable price. “Last year and the year before that, value was being discovered, while we beat the benchmark, some peers did better. In the last 3 months though, when markets fell, we outperformed. The struggle of this style (high growth) is probably over as most of the deep value is discovered,” he said. ASK also has a strategy of running equal weighted portfolios with regular profit booking. It gave around 25-26% annualised returns over the last 5 years across three of its PMS strategies.
How should you pick?
In the long run, it is earnings that matter. Fund managers who focus on the high earnings capability of companies, in cyclical sectors or otherwise, will be able to consistently deliver commensurate returns. The difficulty in a market as fragmented as the domestic PMS industry is in identifying a fund and comparing it with others which may have a different style.
Munish Randev, chief investment officer, Waterfield Advisors Pvt. Ltd, said, “The divergence in returns for PMS comes from aggressive cash calls, concentrated or diversified holdings and the manager’s unique biases.”
There are several founder PMS managers, with one or two strategies, like Kothari and Andrade. Others like Agrawal and Sonthalia are part of organisations, overseeing a much larger asset base across 4-6 strategies. Preferences can vary but ensure that the manager’s interests are aligned with yours in terms of accessibility, fees, returns and ability to manage volatility.
Until there is standard regulation around public performance disclosure, you will have to trust your PMS manager and the adviser who showcases the strategies. Keep an eye on fees and taxes before deciding to invest in a PMS.