Top India stock fund shuns 'trash' value rally ahead of vaccine rollout

In a year when unprecedented moves in equity markets have whipsawed investors around the world, Ajay Tyagi says a rule that he has been sticking to in his two-decade investing career has served him well: focus on quality stocks.

The $1.8 billion UTI Equity Fund managed by him has returned 26% this year to be the top performer among Indian stock funds with at least $1 billion in assets. That’s versus a 13% gain in the benchmark S&P BSE Sensex. Tyagi’s preference for buying shares in firms with high return on capital resulted in zero holdings in the metals and aviation sectors, which were the worst hit during the pandemic.

Now, as the global vaccine rollout is driving value rotation all around the world, boosting industrial and energy stocks, the 43-year old money manager maintains that he is not one to chase short-term returns.

“We haven’t discovered businesses in these sectors that have economic-value creation characteristics that we like,” he said in a phone interview. “When there are beta rallies, markets reward value companies, 90% of which are nothing but trash.”

Bottom Up

His philosophy is about buying good businesses and holding on to them. “Even in a once-in-decades episode like a pandemic, great businesses will emerge stronger by gaining market share from” weaker players, Tyagi said.

That strategy of sticking with quality has certainly paid off in 2020, which has seen the Sensex erasing more than a third of its value during the March meltdown and then surge relentlessly to break record highs. The UTI fund has outperformed the benchmark even as it didn’t hold Reliance Industries Ltd. -- India’s most valued stock and one that’s contributed a bulk of the Sensex’s 2020 gains.

IT, Pharma

Tyagi’s penchant for companies that use capital efficiently means the fund has had a large part of its holdings in information technology and pharmaceutical stocks. Those two are the best-performing sectors in India this year.

“I buy businesses that I define as high-quality ones, which have an ability to generate return on capital that is substantially higher than the cost of capital,” he said in a phone interview. “High ROC is also mathematically linked to high cash-flow generation. If you look at our portfolio over time, we have always been heavy on consumer, pharma, and IT.”

The fund’s allocation to financials -- a heavyweight sector -- is also about six percentage points below that of its benchmark Nifty 500 Index, according to its latest factsheet. That gauge has risen about 14% this year.

“Capital allocation to every business is driven by longer-term outcomes in business rather than stock-price behavior,” Tyagi said. “We take no view about how stock prices will move in the near term because nobody has a clue about it.”