In praise of India's money masters

While the book praises the feats of Indian fund managers, the final chapter sounds a warning bell for the future of active management

HOW FUND MANAGERS ARE MAKING YOU RICH

Discover Ways to Tame the Bear and Ride the Bull 

Pravin Palande

Rupa Publications

254 pages; Rs 595

With the Sensex crossing 35,000, interest in equity mutual funds is at an all-time high and investors are starting systematic investment plans (SIPs) in droves. At a time when making money in stocks appears to be a cinch, why would people turn to a book that dwells on the pitfalls of bull and bear markets, and how the best fund managers have navigated their funds through such conditions in the past? The answer lies in Benjamin Graham’s maxim that all bull markets must end badly. A lot of retail money is going into the mid- and small-cap segment where valuations have soared to precariously high levels.

A similar tragedy gets re-enacted in the stock markets every few years. As they rise, a generation of first-timers comes in, typically when a large part of the rally is over and valuations are stretched. These investors have never experienced the pain of a market bust and tend to be recklessly optimistic. Pravin Palande’s book offers a timely lesson in stock market history. The initial chapters recount the two major boom and bust cycles of recent decades: Dotcom (1999-2000) and infrastructure-cum-real estate (2007-08). History may not repeat itself but it does rhyme, especially in the equity markets. Young investors need to bone up on what happened during the past bull runs so as not to repeat the mistakes of the past.

A book like this one deserves to be written at this juncture (the mutual fund industry now has a quarter century history since private players were allowed) because Indian fund managers have created a track record which they can be proud of. In a May 2015 interview, Nilesh Shah, currently the managing director of Kotak Asset Management Company, said that Indian equity fund managers had outperformed the benchmark indices by double the margin by which Warren Buffett had in the past 17 years. Indeed, many Indian fund managers, like Siva Subramanian at Franklin Templeton and Prashant Jain of HDFC Mutual Fund, to name just a couple, have created stellar long-term track records. Investors who got in early into their funds would have ended up very rich. (It’s another matter that identifying tomorrow’s winners early and sticking to them through thick and thin is easier said than done.)

In the second part, the author dissects investment strategies of some of India’s best and brightest fund managers. Most investors choose funds merely by looking at past returns. But it is equally important to know how a fund manager earns those returns. Investment styles vary widely. Some like Sankaran Naren of ICICI Prudential are top-down specialists who study the macro environment and seek to benefit from larger trends. The majority of Indian fund managers, on the other hand, are bottom-up investors who focus on a company’s business model, management and financials. Mahesh Patil of Birla Sun Life Mutual Fund prefers a diversified approach, while others, notably those at Raamdeo Agrawal’s outfit Motilal Oswal, swear by the efficacy of running concentrated portfolios. Some are value-conscious, while others are growth or momentum-oriented. Investors need to understand a fund manager’s style and ensure that it is in sync with their own investment philosophy.

A key insight the book offers is on why fund managers, especially the most talented ones, underperform during market rallies. It happens because fund managers could be uncomfortable paying the outrageous valuations that stocks from booming sectors come to command in such times. They also sometimes stay away from the part of the market that is rallying because they are uncomfortable with its fundamentals. Many fund managers avoided tech stocks during the 1999 rally because they did not wish to invest in companies that had nothing to recommend them barring a dotcom suffix. Many also refrained from investing in realty stocks in 2007 because they were uncomfortable with their poor corporate governance standards. Not investing in the hot sectors of the day meant that their funds underperformed while the rally lasted. But when the markets fell, they were among the few left standing amid the mayhem.

While the book deservedly praises the feats of Indian fund managers, the final chapter sounds a warning bell for the future of active management. Growing market efficiency and recent developments like the new classification of funds ushered in by the Securities and Exchange Board of India or Sebi and benchmarking of funds against the total return index will make it tougher for fund managers to outperform. Investors should heed the author’s suggestion that they move to low-cost passive funds in the large-cap space, while continuing with active funds in the mid- and small-cap domain, where there is still scope to create alpha.

Both new and seasoned investors will find something for themselves in this book. Sometimes, the writer gets hyperbolic about individual fund managers, but that is a minor flaw in what is otherwise a fine addition to the limited corpus available on the Indian capital markets and fund industry.