What is your opinion on the market based on the current valuation?
Prices, in general, have surged over the last year in the markets from the lows of March 2020 but we believe investment opportunities continue to be available in individual companies. The economy has shown resilience and is expected to recover in FY22 aided by the fiscal and monetary support, roll out of the Covid vaccine and the return of economic activity to pre-pandemic levels. From a near term perspective, valuations may seem somewhat stretched especially during the ongoing second wave of the pandemic and its potential economic impact in the first half of FY22. However, from the perspective of 3-5 years, there are investment opportunities across market caps. If you consider the expected improvement in economic growth along with margin expansion, the valuations do not appear to be very stretched.Having said that, volatility in the near term cannot be ruled out.
What are the major triggers and key risks for the markets from here?
The major triggers for the market could be a) implementation of the government’s policy and expenditure plans announced in recent months; b) a successful vaccine rollout program c) consumer spending and private investments and d) expected normal monsoon, third year in a row.
One of the key risks for the markets continue to be the uncertainty around the spread of Covid 19 and the impact of the ongoing wave. The markets would also be keenly watching the execution of the govt’s spending and investment plans as well as the implementation of the policies announced in the Union Budget 2021 and subsequently. The rise in G-sec yields, globally, may also be a potential risk to multiples.
Why should distributors consider recommending midcap funds to their clients?
Midcap funds are typically a part of a well-diversified fund portfolio for equity investors. While for most investors, the core equity portfolio should be diversified or large cap oriented adding a midcap fund to the portfolio may potentially add to returns.
The fund was launched in Dec 2019 and is yet to surpass the benchmark index. What are the key factors that attributed to the underperformance? And, what are the remedial measures undertaken/to be undertaken?
Principal Midcap Fund is currently about 15 to 16 months old. In this short span of its existence, the fund experienced one of the sharpest corrections in over a decade which was subsequently followed by market pullbacks. In these unprecedented movements, the volatility in the market has been inherent especially during the last 12 months. The underperformance can be primarily attributed to historical allocation to stocks in communication services, utilities and healthcare companies.
The portfolio is well positioned across different sectors. We have adopted a balanced approach so far as risk is concerned. The general recovery in economic activity - led by fiscal and monetary impetus, government thrust on ‘Make in India’, price linked incentives and return of normalcy post the pandemic could help the business to post a better growth trajectory. The portfolio is adequately constructed to benefit from the impending recovery.
Which sectors are you bullish about?
The largest allocation of the fund is towards the financial sector. Within this, higher weight is allocated to private sector banks, insurance and select high quality NBFCs. We believe this sector growth could precede broader economic growth. The consumer sector especially, the discretionary space has been materially hit due to the pandemic and related disturbances. As the situation normalizes, it should have a material positive impact on consumption such as automobiles, retail and other discretionary consumption.
Industrial and materials sector may also be beneficiaries. Building products should benefit due to government focus on ‘Housing for all’ and policy impetus to the sector in general. Similarly, chemical sector could benefit from the readjustment of the global supply chain and a gradual shift from China to India.
What makes Principal Midcap Fund stand out from the other midcap funds in the market?
The fund is managed through our robust investment process, asset allocation and stock selection. We follow a bottom-up approach to stock selection and aim to maintain an adequately diversified portfolio with exposure across sectors. The stocks are selected based on their robust business model, competitive moats, sustainable earnings growth, superior quality of growth and demonstrated management pedigree, with earnings expected to grow better than other companies in their sector.
Further, we seek investment opportunities categorized into four broad themes, i.e. turnaround stories, value unlocking, value migration and the new age economy. Of these, value migration and value unlocking are more internal to the organization and is a function of long term thought process. Turnaround stories, at times, are also a function of changes in the external world. Hence, they may include cyclical businesses or companies coming out of financial distress. New age businesses as the name suggest are not traditional in nature. These businesses are generally at the nascent or early growth stage of their evolution. The growth opportunities are large and may sustain for long periods.
Why do you think distributors should recommend Principal Midcap Fund?
The Principal Midcap Fund portfolio is well diversified across sectors. The companies under this portfolio are high quality businesses with a proven track record over a long period of time and strong balance sheets. The fund provides a wealth creation opportunity to long term investors. Advisors should recommend this fund based on their assessment of the risk appetite and the financial goals of the investor.
What is your take on the sunrise sectors and what potential do they hold for the investors?
The Indian economy has evolved and many new sectors like organized retail, e-commerce, healthcare, movie exhibitions, logistics, etc. have opened up or are opening up and providing good investment opportunities. Many mid cap companies are leaders in their own niche segment and have a strong connect with the end consumer or are often a significant part of the supply chain to large cap companies. Well run mid sized companies have features of a large company like a good governance structure and efficient capital allocation while being run by an enterprising management team executing to deliver growth. There are potential investment opportunities in midcaps companies which are seeing consistent earnings growth, companies undergoing business transformation or restructuring to re-focus their business on the high growth areas, companies focusing on value migration leading to improving margins or those where intrinsic value is being unlocked as a result of corporate actions etc.
The government has introduced various initiatives like Make in India, Aatmanirbhar Bharat, etc. In the light of these initiatives, how do you perceive the performance of the mid cap segment in the coming future?
There are many midcap companies that have improved their cost efficiencies, very low debt and have built a robust business model over time. The Make -in India program and price linked incentive scheme launched by the government, have the potential to create a lot of opportunities within the midcap space. As the volumes start picking in the markets, these companies are potentially better positioned for margin expansion compared to the historical trends. Stock selection would be the key factor in picking up the right midcap stocks. We believe there are companies in the midcap space which are available at attractive valuations despite the market run up of recent months.
