A shocking rape, alternate histories and equity investing

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Recently, I met an old school friend of mine after ages. Amidst the good old banter and evergreen memories, he spoke about his past stint at Taxi For Sure and the stressful period he had to undergo during the last few months before the company finally got sold.

Curious to know more about this, I came back home and started reading about why Taxi-For-Sure had to close. That is when I chanced upon an interesting narrative on what really happened.

The Taxi-For-Sure Saga

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This is the article (link) and I recommend you to read this as it holds a lot of interesting lessons for us as investors.

“This is the story of how, in just two months, Taxi for Sure went from a prospective good second bet in the taxi aggregator business in India, almost on the verge of raising $200 million, to a company that no venture capitalist would touch.”

For those who don’t have the time to go through the entire article, here is a quick gist of what happened..

Taxi for sure, a cab aggregator similar to Uber and Ola, given the first mover advantage had a strong run for almost four years till 2015, facilitating around five million cab rides. It also prided itself on “being used to beating Ola with less money“.

At that juncture, it clearly looked like Taxi For Sure was a good second bet in the taxi aggregator business in India.

But its competitor Ola, had other plans.

In an aggressive move to take market share, Ola slashed the fares for its cab rides and made it more cheaper than an auto rickshaw. Further, they also increased the driver incentives.

It’s logic was simple. The company had raised Rs.250 crore in a round of funding in July 2014 and was burning money to get more customers and drivers on its platform.

Taxi For Sure, was watching from the sidelines as Ola was losing almost Rs 200 every ride and hence thought this wouldn’t be sustainable.  This was impacting them, as both the drivers and the customers given the better financial incentives were moving towards Ola. However, Taxi For Sure expected this to be a temporary tactic from Ola.

But they were in for a rude shock, when on 28 October, Ola raised $210 million (about Rs.1,281 crore) from SoftBank and its other existing investors. In the start-up world, whenever there is a large difference between two firms, raising capital becomes very difficult for the laggard.

On 1 November, Taxi For Sure decided to take the plunge and responded with similar price cuts for customers and better incentives for drivers!

The strategy worked brilliantly and they saw a 3-4x surge in transactions immediately. However there was a catch. They were making losses of Rs.36 lakh every day. This meant they were also running short of funds and they needed to go in for the next round of funding.

They immediately started exploring the market to raise funds—around $200 million.

Things  looked  great as all the concerns on the size and scale of the Indian taxi aggregation business were put to rest, thanks to the validation via the $210 million investment in Ola by SoftBank.

The company saw interest from more than 20 investors in the US. All the due diligence was done and only two steps remained; a partnership meeting with the firm, where the entrepreneur makes a presentation to the firm’s senior team, and the final nod for investment.

So it was more or less given that they would raise the $200 mn funding.

The Blackswan Event

On 6 December night (saturday), the co-founderRaghu boarded a flight from Bengaluru to San Francisco. He had lined up almost 20+ meetings with VCs and hedge funds the following week and was pretty confident on raising the $200 mn funding

But little did he know that a black swan event on the same day would end the journey of Taxi For Sure once and for all.

Late in the evening, at about 11pm on 6 December, news broke that a Uber cab driver, Shiv Kumar Yadav had raped a 26-year-old woman passenger in Delhi.

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All hell broke loose, people were angry and there were widespread rumours that all taxi aggregator firms would be banned in Delhi. Other states, too, such as Karnataka and Maharashtra, were considering a ban.

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Over the next week, in an unexpected twist all the VCs backed out as they were all concerned about the possibility of a regulatory ban.

A single incident had changed the entire future of the company.

Not able to raise funds, eventually they sold out to their competitor Ola.

Thus ended the story of oversized ambition, a black swan event, a govt’s knee-jerk reaction, cash burn and over-reliance on venture capital funds.

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Alternate Histories – We only witness one version of what could have happened!

Now if you really think about it, what happened to Taxi-For-Sure was just one version of several outcomes that could have actually happened.

What if that fateful rape incident didn’t happen?

What if Ola also hadn’t raised the money a few months back?

What if the government didn’t take a knee jerk decision to ban the cab aggregators?

What if some investor had still funded them?

The possibilities and “what-ifs” are many.

But now in retrospect, we only see one version of history – the version where Taxi For Sure was bought out by Ola.

This is exactly what the prolific writer Nassim Taleb refers to as alternate histories.

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Let us hear it in his own words..

One can illustrate the strange concept of alternative histories as follows. Imagine an eccentric (and bored) tycoon offering you $10 million to play Russian roulette, i.e., to put a revolver containing one bullet in the six available chambers to your head and pull the trigger. Each realization would count as one history, for a total of six possible histories of equal probabilities. Five out of these six histories would lead to enrichment; one would lead to a statistic, that is, an obituary with an embarrassing (but certainly original) cause of death.

What does it have to do with us?

In fact a lot.

While I have tried giving evidence for why performance chasing doesn’t work here and here, it is time to understand the intuitive logic behind why past performance fails as an  indicator in investing unlike most other areas in life.

The unfortunate truth in investing is that no investment style or approach will outperform at all points in time.

This is because based on the changing market conditions, various investment styles find favor at different points in time.

So, whenever a fund is outperforming it simply means that the investment style or approach has found favor in the current market conditions.

Past performance can be a good indicator only in the case where the past market conditions remain unchanged and continue to the future. But as we all know, market conditions inevitably change and some other different style or approach will find favor. A new set of funds belonging to that particular approach will become the new group of outperformers.

Thus, to predict the future winners, the real ask is to identify the future market conditions and not the past market conditions which led to the current winners.

Unfortunately, the future market condition has several possibilities (what ifs) like our Taxi-for-sure story and no one knows, which of the market conditions will really play out and when it will play out.

Eventually one of the several market conditions will play out and a particular investment approach will find favor. In retrospect the past will always look like a single clear cut outcome which could have been easily predicted.

The current winners will be chased yet again only for us to be disappointed when market conditions inevitably change.

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So, in essence there is no investment approach that is consistently capable of outperformance and also there is no investor or fund manager who has managed to switch successfully from one style to another, and always remained invested in a style that was in favour at the moment.

Oops! So what the heck do we do?

  1. Identify fund managers with a clearly communicated – logical, evidence based investing approach which has worked well over the long run
  2. The key reason why I emphasize on understanding the investment approach and style is because otherwise it is impossible to stick on to the fund in periods where the style is out of favor and we will perennially be in the “chase the best performing fund” trap
  3. Diversify across various investment approaches or styles
    • Market cap (large, mid, small)
    • Style – Value/Quality/Growth
    • Domestic/Global

Summing it up..

Any logical and evidence based investment style would pay off over a period of time, but no investment style, however sound it is, will continuously give better returns.

And as Dan Kahneman says,

What you should learn when you make a mistake because you did not anticipate something is that the world is difficult to anticipate. That’s the correct lesson to learn from surprises: that the world is surprising.

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If you loved what you just read, you can check out all my other articles here

Cheers and happy investing!

Also do share it with your friends and don’t forget to subscribe to the blog along with the 5000+ awesome people. Look out for some fresh, super interesting investment insights delivered straight to your inbox.


If in case you have any feedback or need any help regarding your investments or want me to write about something, feel free to get in touch at rarun86@gmail.com
Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments.
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Here’s how I finally set up my investment portfolio for the next ten years!

In the last few weeks, I had discussed about a simple yet intuitive way to pick equity mutual funds. In case you are new to this blog you can check the entire series here:

  1. Selecting an equity mutual fund is a pain in the neck. Find out why?
  2. What if Steve Jobs was an Indian Equity Investor
  3. How do we experience good performance?
  4. How to select equity mutual funds the eighty twenty investor way – Part 1
  5. How to select equity mutual funds the eighty twenty investor way – Part 2
  6. How to select equity mutual funds the eighty twenty investor way – Part 3

Now obviously all this is just theory if I don’t walk the talk.

So I have decided to invest my own money in two of the funds chosen, each and every month for the next 10 years.

Yes, you heard it right next 10 long years (Phew! It sounds equally intimidating and scary to me as well). Hopefully we can pull it off together 🙂

While all six fund managers are good, I wanted to keep my portfolio simple and so will stick to just two funds (good enough for providing adequate diversification).

I have chosen both the fund managers from the value basket (personal bias)

  1. Sankaren Naren – ICICI Prudential Large and Mid Cap Fund
  2. Rajeev Thakkar – Parag Parikh Long Term Equity Fund

You are free to pick any two and don’t bother too much on my choice.

The game plan is simple.

I will be investing Rs 30,000 every month in these two funds (15K each) for the next 10 years. Hopefully every year as my salary increases I will also be increasing my SIP amount by approximately 5-10%.

I will be reviewing my portfolio once every 6 months and the link to the review will be updated in this page.

Live Portfolio Updates

1.Discipline and Behavior check

I personally believe this will be the biggest determinant for the success of this plan.

Current Plan of action – 15,000 in ICICI Prudential Large & Mid Cap + 15,000 in Parag Parikh Long Term Equity Fund on the 5th of each and every month

  1. Aug-18           Done – 30K invested
  2. Sep-18            Done – 30K invested
  3. Oct-18
  4. Nov-18
  5. Dec-18
  6. Jan-19
  7. Feb-19

2.Decision Journal

All decisions will be documented here every 6 months (so that we can evolve our process based on feedback)

  • Aug-18 – Rationale for picking the two funds – Link 

3.Current Portfolio (started from 05-Aug-2018)

As on 17-Sep-2018

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FAQs

1.What will determine the success of this whole plan?

Now while this question is better answered ten years down the line, this is what I believe will be the most important contributors to the success of my investment plan.

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  1. Faith in Equities:
    • Investing in Equities for the long run is basically a bet on human progress
    • You are simply betting that entrepreneurs (who take higher risks) on an aggregate will get compensated with higher returns
  2. Discipline to invest regularly:

    • Ability to save and invest regularly through good and bad times holds the key
  3. Patience to hang on through tough times:
    • Market corrections are not a bug but a feature – and it is next to impossible to predict when the next one is coming, how steep the decline would be and how long it will last
    • It is prudent to assume that our equity portfolios will go through a 30-50% decline at-least once in every decade
    • 10-20% corrections should be expected to be a regular affair
    • It is ok to realise that you wont be able to predict the fall and in fact you don’t need to predict the fall to create long term returns
    • The way you behaviorally respond to a fall (which is completely under your control) is all that matters for your long term returns
  4. Choice of funds
    • The idea is to pick funds managed by experienced fund managers with a
      • Consistent and well communicated investment process/style
      • Long term track record across market cycles (i.e periods covering up and down markets)
      • Well diversified across large, mid and small companies

The real deal breaker in this whole endeavor is not the choice of funds..

Instead its actually our ability to stay disciplined (invest every month) and stay patient through bad times (which is inevitable at some point in time).

And here is the best part..

Both these are completely in our control!

2.Is an SIP completely risk free?

How I wish!

Unfortunately SIP while it has a tremendous behavioral advantage, there are also certain risks that you must be aware of. You can read about it in detail here

3. Why do I not follow an asset allocation plan?

This is one of the common mistakes which most of us do. When you are in your 20s or 30s you forget the fact that you have a long investment time horizon & large human capital (i.e the amount of money you are yet to earn using skills, knowledge and experience, over the course of your career). This essentially means your current savings is a paltry amount compared to the expected corpus 15-20 years down the line.

I am in my early 30s and the amount that I am saving right now is a minuscule component if I take my entire future savings over the next 10-20 years in context. So to take advantage of this long investment time frame and human capital, I am going for a equity heavy portfolio as I have my short term requirements sorted through safer avenues such as fixed income funds etc

You can read more about this here

But if you have a large portfolio, then you will have to follow an asset allocation plan as wealth preservation takes a higher priority over wealth creation.

Just remember, if you are young – your ability to save is more important than picking the best fund!

3.Why do I do this?

Most of you must be going through the same problems as I am – difficulty to save, extremely complicated investment world and the problem of getting scared out of equities during a market fall.

The hope – is that you and me together will be able to solve this.

This journey which will be available in the public domain, will attempt to give you an idea of how living through an actual SIP portfolio looks like. Together, if we are able to stay invested without panicking through a bear market (which will inevitably happen sometime in the future) and invest regularly, then the long term results would be awesome and we could have our investment journey sorted!

I have always believed that investing needs to be simple and if we just got our behavior in place, all of us can have amazing results. This is my humble attempt to prove it.

Someday I dream of being known as that crazy guy who finally cracked the problem of investment behavior!

I know its a tall ask. But nevertheless..

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Overall, if things work, then this page will be a inspiration for many people to start investing and appreciate the journey of what it really takes to be a long term investor.

If in case the whole concept is a failure, you can rip my case off via the comments explaining what a stupid jackass I was. For me while that would mean I would go down as a dumb guy, the best part is since every decision is documented I can always go back and analyze as to what actually went wrong and based on the actual evidence, you can avoid all my blunders.

Either way, its a win-win for you!

4.Any hidden agenda?

I am a nice guy and want to genuinely help you out. Err..Partly true.

But let me be brutally honest. I have a selfish motive as well.

Here goes my story..

Most of our parents were phenomenal savers (mine were for sure!). If you really look at why this happened, most of them took a huge loan and invested in a home early in their life. And this meant each and every month for the major part of their working years, they had to forcefully save and pay for the EMI. All their expenses were post their EMI.

Unfortunately I am not too keen on buying a real estate despite my mom trying day in and out to convince me.

The result – I am a terrible saver and a super spend thrift!

Since I have no loans, I end up spending a lot (especially impulse purchases). Adding to the pain, the Facebooks, Instagrams, Amazons, Flipkarts, Swiggys, Zomatos, Netflixes, Ubers etc of the world are making my savings habit almost next to impossible.

So unless and until I force myself to save I won’t be able to do it. The moment I have given a public commitment (to save 30k every month), then I suddenly become accountable to all of you and most importantly myself!

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If I don’t save up every month, I will end up looking like a failure – the man who only preached.

So this is my selfish motive – to help myself get the discipline to save each and every month straight for 10 years – come what may!

5.Should you follow this portfolio?

The whole idea is to view this as a reference point and you can evolve your own plan based on this. Always focus on the thought process and my logic behind the plan and don’t blindly go by my choice.

Personally, I believe in this plan and hence I am investing my own money in it. So to trust me or not, I leave it to your own judgement.

6.Will there be tough times?

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Obviously. There will be several periods where you will feel you would have been much better off investing in an FD instead. In a bear market, the portfolio returns will be extremely disappointing and I have no magic wand to save you from the pain of seeing temporary losses in your portfolio.

And again, at all points in time there will always be some other fund doing better than the ones I chose. I profess no special ability to spot future winners.

Simply put, this is a plain vanilla investment portfolio which will test our patience and discipline at several points of time. If you are not ready for it, then you need to evaluate safer options with lower return expectations.

7.Will I change the funds?

Yes, I will change the funds if

  • The fund manager changes (because that is the basic premise of our investment)
  • The performance over a cycle under performs the index
  • The size of the fund becomes too big
  • The fund manager does not stick to his communicated mandate and investment style
  • Corporate governance issues
  • Does not communicate in plain English during tough times

8. Should you pick the same funds?

Not at all. You can actually pick any fund based on your conviction. There are several good funds out there. The key is that we need to invest regularly and have the conviction to stay put through bear markets. The big idea is, if we can do it together, the journey of ups and downs become a lot more palatable.

9.Which platform do I use to invest?

As of now I use Kuvera. I find it simple and good enough. The newly launched Paytm Money might also be a decent option.

10.What about asset allocation?

Once my portfolio size grows to lets say 5 times my yearly spending, then I will start implementing an asset allocation strategy.

11.What is my risk profile?

I have my entire savings till date invested in equities (primarily via stocks). All my tax savings is in ELSS. I work for a wealth management firm and hence my career is also equity market dependent. My better half is an amazing entrepreneur and she runs a chain of dessert joints in Chennai called The Brownie Studio (if you drop in sometimes to this part of the country, try us out and do let me know). So in effect both of us are basic believers in the Indian entrepreneurship story and all our investments reflect this.

I am a very high risk taker and hence this SIP portfolio again falls into the pattern. My reason for choosing an SIP is because I am trying to automate my savings behavior.

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If in case you have any other questions, do let me know. I shall try to answer this in the same post.

Until then, happy investing folks!

If you loved what you just read and think your friends might also find this us meful, share it with your friends and don’t forget to subscribe to the blog and join th 5000+ awesome people. Don’t miss out on the interesting investment insights delivered straight to your inbox every week. Cheers 🙂

Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments

How to select equity mutual funds the Eighty Twenty Investor way – Part 3

10 minute read

In the first two articles of this series (part 1, part 2) we had selected fund managers for both the investment styles – Value and the Growth/Quality bucket.

Final List

In today’s article, we will choose fund managers for the “Blended” investment style bucket i.e a mix of both value and growth/quality.

UTI Mutual Fund – Vetri Subramaniam – UTI Value Opportunities Fund

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Vetri Subramaniam is the CIO of UTI Mutual Fund and he manages the fund UTI Value Opportunities. He is a veteran with 24 years of work experience. Phew, I was an 8 year old kid playing video games when he started his career!

Prior to joining UTI in January 2017 he was the Chief Investment officer at Invesco Asset Management Ltd. He was part of the start-up team at Invesco (then Religare Asset Management) in 2008 and helped establish the firm’s investment process and the team. During his tenure, the firm established a strong track record.

The firm also launched several offshore funds investing into India from Japan, Mauritius & Luxembourg.

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Source: Linkedin Profile

We need to keep in mind that he joined UTI only in the beginning of 2017 and hence UTI Value Opportunities fund’s long term performance won’t be relevant to evaluate his style.

What is his investment style?

  • Core Philosophy – Buy something cheap relative to expectations
  • Focus on two types of “value” (read as mix of value and quality/growth)
    • High quality companies with slightly higher valuations – as market may be under appreciating the sustainability of competitive advantages and/or the length of the growth runway for the company. These companies defy the norm of cyclicality and reversion to mean.
    • Companies experiencing temporary challenges due to cyclical factors, changes in the environment or their own past actions. But if the core business is healthy and a path to a better future (cash flows, return ratios) is visible then their depressed valuations offer an attractive entry point.
  • Combines both stock level analysis and sector level calls to build portfolio

Investment Strategy

I prefer to manage the portfolio with all positions carrying an active positive weight. That is to say if the fund owns a company that is in the benchmark index – the position in the fund would be in excess of the benchmark weightage i.e overweight. Otherwise the position would be zero. In other words the strategy would either be overweight an index stock or have a zero position. As for stocks that are in the fund but not in the benchmark, it is by definition an overweight position.

As a result the active risk in the strategy is high and performance deviation relative to the benchmark can also be high. This higher risk is consistent with a strategy targeting a higher Alpha.

For a detailed understanding you can refer the below links..

https://www.utimf.com/articles/q-a-with-fund-manager-vetri-subramaniam

http://beyondbasics.wai.in/the-investment-philosophy-of-vetri-subramaniam/

You can also refer to all his interviews here

Wow Factors

  • 24 years of experience
  • Clearly defined strategy – active position weights (refer above)
  • Clear communication via the AMC website
  • Strong performance track record in his earlier fund – Invesco Contra fund

Performance across market cycles

Since he managed the Invesco Contra fund from Jun-2008 till Jan-2017, I have listed the top performers for that period (excluding mid and small cap funds)

Point to Point Returns   Vetri.png

Now unfortunately, all funds in the list except Mirae Asset India Opportunities, BNP Paribas Multicap, Invesco India Contra Fund and Reliance Multicap were running mid/small cap strategies due to which their performance is not comparable.

So if we exclude them and consider only the flexi cap strategies, the fund was the amongst the top 5 performers.

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Further the performance has also been reasonably consistent.

Also he has started to turn around the performance of UTI Value Opportunities fund which he has recently taken over.

UTI Value Opportunities Fund Regular Plan Growth   Mutual Fund Performance Analysis.png

Communication

All communications on the investment philosophy and strategy is available in their website thereby making our life easier
https://www.utimf.com/articles/?filter-type=category&filter-value=blog

Concerns

  • Top Management is unstable: The leadership is still not stable, with a divided board on who should take control. The CEO also quit this month. Read here.
  • Contrarian bets might take longer than expected to play out

My View

  • This fund will fit perfectly in the blended portion of the style spectrum as it combines both the value and the quality/growth styles.
  • The fund manager has been in the markets for 24 years and has experienced several cycles.
  • The fund house clearly communicates its strategy and I hope they will continue to proactively communicate even while the style is out of favor
  • The track record in the earlier fund (Invesco Contra Fund) has been very good and there are signs of performance turnaround in his currently managed fund – UTI Value Opportunities
  • Summing it up, Vetri is a solid and grounded fund manager with tremendous experience and good track record. Hence I am adding him to my final list in the blended style bucket.

IDFC Mutual Fund –  Anoop Bhaskar – IDFC Core Equity Fund

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For those hearing his name for the first time, here is a detailed article on his investment journey.

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Post this, he joined IDFC Mutual fund in Feb-2016

What is his investment style?

  • Quality stocks + Stable growth + moderate valuations (you can read about the logic behind this thought process hereIDFC Core Equity - Stock Selection Process.png
  • Flexible in moving across Large, mid and small caps based on the market environment
  • Key focus – To limit downside and still participate in market rallies
  • Usually has very diversified portfolios with large no of stocks – earlier portfolios used have more than 80-90 stocks.
  • Let us hear it in his own words “The way to look at concentration is to look at the number of sectors in the portfolio, rather than the number of stocks. Now, if I decide to own tyre companies, I may prefer to own three-four tyre stocks at 2-2.5 per cent each instead of one stock at 9 per cent. That controls liquidity risk” Source: Value Research Interview

“I try to buy companies where the growth is higher than what the market is forecasting and where valuations on a relative basis are comparable” – Anoop Bhaskar

Wow Factors

  • Has been managing mutual funds since 2004 – 14 years of real time fund management experience (one amongst the longest in the Industry)
  • Solid track record in his previous tenures at various AMCs- Sundaram Mutual Fund, UTI Mutual Fund
  • Conservative by nature – never takes concentration bets in stocks + he does not push his luck too far by staying overexposed to a high-performing stock – Source: Forbes interview)

Performance across market cycles

He joined UTI AMC in April 2007 and served till January 2016

Anoop Bhaskar - UTI Equity.png

Source: Value Research

As seen above, both his funds UTI Value Opportunities (started managing from mid of 2011) and UTI Equity Fund have been in the top 10 flexi and large cap funds during his period in UTI.

In his earlier stint in Sundaram AMC, he managed the Sundaram Mid Cap fund. Between 2003 and 2007, the Sundaram Select Mid-Cap Fund’s NAV grew on average by 74% every year and was amongst the most popular funds of that time.

Thus he has built a solid long term track record across his career.

Communication

  • Anoop gets interviewed regularly and the interviews are easily found via ValueResearch, Morningstar, Outlook Business etc.
  • IDFC AMC website communicates reasonably well on the investment philosophy and strategy
  • The best part is, they are extremely pro-active and communicate immediately if in case of any performance issues

Concerns

  • Difficult to track: While it has worked historically, the fact that there are a large no of stocks means, it is impossible for us to understand the strategy (unless communicated). If in case of an under performance it is too difficult to pinpoint the cause unlike a concentrated fund where it is much easier to track. So our ability to hold the fund is based on the faith on the fund manager and the trust that they would communicate in plain english if something goes wrong
  • AMC might get sold: There is a possibility that the AMC might get sold. So the continuity of the fund management team will be the key to watch out for if in case something like that happens. You can read more about it here
  • The investment philosophy is not static and adapts to market conditions
    • “I don’t have a core investment philosophy that remains stagnant across different market phases. Instead, I would rather say that my core philosophy is based on a few principles; the importance given to each individual principle varies across different market phases.”
    • “One has to decide what percentage of the portfolio they want to take a higher risk on. And depending on the 6-12 month view on the market, that percentage can change up or down.”
  • This is a lot easier said than done as constantly evaluating the next 1-2 years and positioning the portfolio is very difficult. Their recent note highlights this

Source: https://www.morningstar.in/posts/46379/anoop-bhaskar-relevant-money-manager.aspx

My View

  • This fund will fit perfectly in the blended portion of the style spectrum as it combines both the value and the quality/growth styles
  • The fund manager has been in the mutual fund industry managing funds for 14+ years and has successfully navigated several cycles.
  • The fund house clearly communicates its strategy both during good and bad times
  • The track record in the earlier fund (UTI Equity) has been very good and there are signs of performance turnaround in his currently managed fund – IDFC Core Equity Fund
  • Summing it up, Anoop is a grounded fund manager with tremendous experience and solid long term track record. Hence I am adding him to my final list in the blended style bucket.

Now that we are done with selecting fund managers for all the style categories, let us see the final list

Eighty Twenty Investor - Final Fund Selection.png

Thus we have 5 funds representing various investment styles.

Now typically a good equity portfolio will need 3-4 funds. So you can pick your funds from each of the styles and create your own portfolio.

In the next week, I will choose a few funds from the above list and will be starting a live SIP portfolio where I will be investing my own money every month. (otherwise all this will still remain mumbo jumbo)

Till then, cheers and happy investing 🙂

If you loved what you just read, share it with your friends and don’t forget to subscribe to the blog along with the 4500+ awesome people. Look out for some fresh, super interesting investment insights delivered straight to your inbox.

If in case you have any feedback or need any help regarding your investments or want me to write about something, feel free to get in touch at rarun86@gmail.com

Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments

How to select equity mutual funds the Eighty Twenty Investor way – Part 2

10 minute read

In the last post here, we had selected fund managers for the value bucket.

Now we are left with the blended bucket and growth bucket. So, let us pick fund managers for these buckets today.

Picking fund managers for the quality/growth bucket

1.Axis Mutual Fund – Jinesh Gopani – Axis Focused 25

Jinesh Gopani.jpg

Axis MF in all its external communications have highlighted their quality & growth bias (vs say an ICICI where contrarian/value is the predominant bias)

While quality is a vague term, this is how they try to define it:

Axis focus on quality.pngIn their recent note Quality Matters (link), this is how they describe their investment philosophy

There are four principles that the investment philosophy at Axis is driven by. These are:
  • Strong corporate governance/Strong promoter pedigree,
  • Secular growth rate of the sector, which is anywhere around 1.5 to 2x of GDP;
  • Strong business model, which demonstrates its pricing power in the product category and the business it is in, and ultimately
  • Good ROE’s and cash flows

About 80% to 90% of our portfolio is based on this philosophy and have been continuing with it since our inception in 2009.

The key to note here is there is no mention of valuations. Usually most AMCs would have added the line that “we also buy quality and growth at reasonable valuation”!

It gives us a subtle indication of where their priorities lie.

Let us also hear it from their fund manager Jinesh Gopani..

“We concentrate on high quality stories with a long term view as such stories are able to sail through market ups and downs while containing volatility. We tend to stay away from any momentum or hope stories without any support of underlying earnings or fundamentals. Adding to that, we have always stayed away from highly cyclical and highly regulated sectors or stories. Market has rewarded our philosophy and helped us earn superior returns.

Source: https://www.valueresearchonline.com/story/h2_storyview.asp?str=45972

Similar to value investing, long term evidence supports outperformance for quality driven investing as well.

Quality Outperformas over long run.png

What is his investment style?

  • Quality + Growth Bias
  • Valuations take the last priority
  • Concentrated portfolio (Top 15 stocks account for 70-75% of the portfolio)
  • Buy and Hold

Wow Factors

  • He really tends to buy and hold – (around 65%+ of the Axis Long Term equity portfolio stocks are held for more than 5 years)
  • He sticks to his style – The quality bias is evident even if you cursorily glance either Axis focused 25 or Axis Long Term equity portfolio (both are managed by Jinesh)
  • Since it is a concentrated portfolio it is easy for us to track and understand the portfolio

Performance across market cycles

Performance has been consistent and decent across time frames

Axis Long Term Equity Growth   Mutual Fund Performance Analysis.png

Axis Long Term Equity Growth   Mutual Fund Performance Analysis1.png

However, Axis long term fund was started only in Dec-2009 and hence hasn’t gone through the bear market of 2008.

Communication

They have a nice website here where most of the details regarding their funds and investment philosophy are available.

Concerns

  • Jinesh has been managing Axis Focused 25 fund only since Jun-16. His performance track record has primarily been built via the ELSS fund Axis Long Term Equity Fund (managing since Dec-2009)
  • The fund manager is yet to be tested in a bear market
  • Valuations of several underlying stocks are pricing in very high expectations such as Avenue Supermart, Page Industries, Maruti, Bajaj Finance etc (subjective opinion of course). Personally, I feel overvaluations can be the biggest risk to this investing style.
  • The style is currently in favor. Need to evaluate how they adapt when the style is out of favor.

My View

  • This fund will fit perfectly in the quality/growth end of the style spectrum
  • While it is not fair to evaluate a fund by taking a view on the underlying portfolio stocks, since I have an inherent value bias some of the valuations of these quality names make me very uncomfortable
  • That being said the good thing is that they have followed their investment philosophy to the tee and stuck to quality names despite high valuations
  • The fund manager is yet to be tested over a bear market and this is a concern for me
  • Summing it up, its an interesting fund with a solid fund manager. However given my concerns on valuation (maybe biased due to my inherent value inclination) and lack of bear market experience, I would give it some more time before considering it for my final list.

2.Motilal Oswal – Raamdeo Agrawal (guidance) + Gautam Sinha Roy (fund manager) – Motilal Oswal Multicap 35

While Gautam Sinha Roy is the actual fund manager, I have also considered the founder Raamdeo Agrawal as my guess is that he would obviously have a significant influence on the investment philosophy and process.

What is his investment style?

Investment Philosophy MOSl.pngTheir entire investment philosophy is explained in detail here

You can also check this link by the super awesome Venkatesh Jayaraman (@VenkateshJayar2) which has a compilation of all Raamdeo Agrawals interview here

This interview below also provides a lot of clarity on how they manage their funds

Wow Factors

  • Brilliant communication: Their communication is one of the best and their investment philosophy is crystal clear and well articulated
  • Their chairman Raamdeo Agrawal, CEO Aashish Sommaiyya ,PMS fund managers and MF managers frequently write articles and provide public interviews – thereby helping us keep a tab of what is their current thought process
  • Not averse to closing their funds if size becomes large: They also close their funds if their funds become too big to manage – sometime back they closed their mid cap PMS offering citing size constraints (read their newsletter with the rationale here)
  • Equity Focus: The fund house is equity focused and has few but clearly differentiated products
  • Easy to monitor: Since it is a concentrated portfolio it is easy for us to track and to understand the drivers behind the performance
  • Skin in the game: The promoter to show their conviction in their strategy moved their entire prop book into their 3 funds (predominantly the Focused 35 scheme) in 2015 (source: Forbes article)

 “Moving our proprietary money into the mutual fund was the best way to tell the customers about our conviction in the product,” Motilal Oswal

Recently, their CEO had tweeted that the promoter investments in their funds are a whopping Rs 2800 cr!

download.png

While skin-in-the-game doesn’t indicate future performance, but gives us a sense of how serious they are about the money being managed.

  • Proactive in communicating when performance drops: They are also extremely proactive and communicate even during times when there is a drop in performance. This is very important as it helps us derive conviction and stay put with the investment style during periods where it is out of favor. Check out a sample of how they communicate here.

Performance across market cycles

Their mutual funds were launched only in 2013-14 period, which means their funds are yet to be tested over a bear market.

However, their PMS strategies have built a long term track record of 15 years as seen below since Mar-2003

Equity Mutual Funds   Invest in the Best Open Ended Mutual Funds   Motilal Oswal AMC.png

Equity Mutual Funds   Invest in the Best Open Ended Mutual Funds   Motilal Oswal AMC1.png

To put the performance of Value Strategy in context, this is the returns of top 10 diversified equity mutual funds during the same period

Point to Point Returns   Snapshot   Value Research Online2.png

The first 4 funds are mid cap funds. Considering that Value Strategy was a multicap strategy the returns over the 15 years is comparable to top notch fund managers such as Prashant Jain of HDFC, Siva Subramanian of Franklin etc.

Concerns

  • In twitter, there were some concerns raised on the fund house not sticking to the “sit tight” portion – in the current portfolio almost 60% of the portfolio has been held for more than 3 years which seems fine. So while we need to monitor this metric, I don’t see any issues here as of now.
  • Also keep a watch on the twitter account by the name @contrarianEPS who constantly raises concerns on MOSL Funds. While he does not undermine the long term returns, his primary thesis is that MOSL follows a momentum investing style to derive returns (which is not wrong) but markets itself as a value driven style which in his opinion is not right. Usually his tweets get a response from the equally vocal and active MOSL AMC CEO @AashishPS . While I don’t see anything to worry as of now, but I would keep a watch for his tweets and the response from the CEO.
  • The recent issue of Manpasand Beverages was obviously blown out of proportion despite the small weightage in the overall portfolio. All fund managers will have few stocks going wrong or otherwise you don’t need a portfolio. So I think we need to keep in perspective the mistakes vis-a-vis overall portfolio returns over the long run. That being said, the focus should be on trying to understand the process better whenever such accidents happen – what went wrong and how did the particular company get past the fund manager’s quality filters? How did the fund manager manage the scenario? How does the process adapt to avoid such events going forward?
  • The fund is getting larger in size (currently at Rs 14,000 cr). Given, the style of running a concentrated portfolio, size might start impacting portfolio construction some time in the future.

My View

  • This fund will fit perfectly in the quality/growth end of the style spectrum
  • They have built a solid long term track record by following their investment philosophy of Buy Right – Sit Tight
  • Skin in the game with a whopping investment of Rs 2800cr provides us with significant conviction on their seriousness and integrity.
  • Their communication is top notch with clear communication both during times of outperformance and underperformance
  • Concentrated portfolio makes it a lot easier to track the fund performance and understand the strategy
  • Summing it up, its an interesting fund with a solid investment process. I would add it to my final list under the growth/quality bucket.

Other funds following this Quality/Growth strategy with good communication

UTI Equity Fund which is managed by Ajay Tyagi has also recently repositioned itself as a quality/growth style fund.

You can read about his investment style here and here.

While this fund house ticks my checklist on clear communication, I have not included the fund as the fund manager is relatively new – only two years of managing the fund.

Its an interesting fund to keep a watch on and I would wait for a market where the style is out of favor and monitor on how the fund manager behaves during that period to build my conviction.

The Final List

Now that we have filled our “growth/quality” bucket, the selected equity mutual fund list looks like this

Final List

In the next week, I will fill the remaining “Blend” bucket and we shall be all set to build our portfolios.

Till then, cheers and happy investing!

If you loved what you just read, share it with your friends and don’t forget to subscribe to the blog along with the 4500+ awesome people. Look out for some fresh, super interesting investment insights delivered straight to your inbox.

If in case you have any feedback or need any help regarding your investments or want me to write about something, feel free to get in touch at rarun86@gmail.com

Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments

How to select equity mutual funds the Eighty Twenty Investor way

10 minute read

While picking mutual funds, the usual practice is to start with the past returns, run several consistency metrics, ratios etc and finally come up with some funds based on the ranking of all these parameters.

The only issue I find in this process is that the conviction on the chosen fund is predominantly derived from the returns.

Inevitably as funds go through periods where the particular investment style is not in favor and returns lag, our conviction gets tested. Not knowing what to do, we run the process again and replace the existing ones with a new set of funds. Rinse and Repeat.

This unfortunately becomes a perennial trap where we always end up replacing funds and the new ones again repeat the same pattern of not-so-great-performance.

The key problem here is

  • All funds good or bad inevitably go through short term under performance
  • The tough part is to differentiate between a good fund going through short term under performance which is temporary and a truly dud fund going through under performance which is permanent
  • This means we need to derive some way beyond the numbers to derive conviction in the fund so that we can actually hold on to it during the tough times

So, I propose a slightly unorthodox yet intuitive way to pick funds where the priority will be to ensure that you develop conviction and trust in the process. This would help you to stick with the funds for longer periods and have a much better mutual fund investing experience.

So let’s dive in..

Fund selection process

My process will emphasize primarily on a combination of

  1. Fund Manager first philosophy
  2. Understanding Investment Style & Strategy
  3. Communication
  4. Emphasizing performance across market cycles

Fund Manager first philosophy

Every fund house will have its own version of – we have a strong investment process and there is no star fund manager culture followed here.

Personally, I don’t think we are there yet (at least in India) and believe a fund manager still remains the single most important determinant of the future performance of the fund. Think Warren Buffet, Charlie Munger, Howard Marks, Peter Lynch, Seth Klarman etc

So my first step would be to filter out a set of good fund managers from the available universe of 100+ fund managers.

But how do we find them if not for the returns?

Simple. Find the guy who has the highest incentive and resources to figure out a good fund manager and follow him.

Any guesses?

Who else, it is the asset management company!

Think about it, the entire business and success of an asset management company is based on the ability to provide superior returns over the long run. And they obviously know a fund manager plays the key and hence would have done all the due diligence to pick whom they think is the best.

Step 1: Creating a fund manager universe

So let us take the top 15 largest fund houses (based on equity assets) and assume that these guys would have done their homework right and picked a good fund manager to lead the team. So all the CIOs (i.e Chief Investment Officers) of these fund houses will get added to my universe.

  1. HDFC – Prashant Jain
  2. SBI  – Srinivasan
  3. ICICI Prudential  – Sankaran Naren
  4. Reliance  – Manish Gunwani
  5. Aditya Birla Sun Life  – Mahesh Patil
  6. Franklin Templeton – Anand Radhakrishnan
  7. UTI- Vetri Subramaniam
  8. Kotak Mahindra  – Harsha Upadhyaya
  9. DSP – Vinit Sambre
  10. Axis – Jinesh Gopani
  11. L&T – Soumendra Nath Lahiri
  12. Sundaram – Krishnakumar
  13. IDFC – Anoop Bhaskar
  14. MOSL – Gautham Sinha Roy
  15. Mirae Asset – Neelesh Surana

Source: http://www.thefundoo.com/Tools/AMCDashboard

Let me add two other fund houses which while small in size communicate extremely well and hence it is easy for us to understand their process

16. PPFAS – Rajeev Thakkar
17. Quantum – Subramaniam

Also the other source which I like to consider for identifying good fund managers is Morningstar qualitative rating. They do a decent job and I will consider all the Gold and Silver rated fund managers. You can check here

  • Gold rated – Sankaran Naren, Prashant Jain, Anand RadhaKrishnan
  • Silver ratedRoshni Jain (Franklin Templeton), Vikas Chiranewal (Franklin Templeton), Neelesh Surana, Jinesh Gopani, Sailesh Raj Bhan (Reliance MF)

So we add 3 more fund managers as all others are already included

18. Roshni Jain (Franklin Templeton)
19. Vikas Chiranewal (Franklin Templeton)
20. Sailesh Raj Bhan (Reliance MF)

Good, that’s a total of 20 fund managers to start with..

Step 2: Mapping fund managers on the investment style spectrum

Most of the fund managers investment style can be classified as value or growth or blended (i.e mix of both)

Now in order to classify the above fund managers, we need to check if they communicate about their style and investment strategy.

Let us eliminate fund managers who don’t communicate regularly on their website or public forums.

Now to be honest since I work for a large firm I get access to all of them and can get to understand their styles and strategies better. Also this is extremely helpful if there are any concerns on under performance as I can immediately get in touch and get a clear idea on what the fund manager is thinking. But I am ignoring this bias of mine since most of you won’t have access and the only way you can develop conviction is if they themselves communicate about their process and investment style.

Also we are currently trying to pick only for our multi-cap universe and hence we will ignore large, mid and small cap fund managers

So I am eliminating the below fund managers based on the basis of insufficient communication (i.e they don’t communicate well enough on their style and process via publicly available resources)

  1. Reliance – Manish Gunwani
  2. Reliance – Sailesh Raj Bhan
  3. Aditya Birla Sun Life  – Mahesh Patil
  4. Franklin Templeton – Anand Radhakrishnan
  5. Franklin Templeton – Roshni Jain
  6. Franklin Templeton – Vikas Chiranewal
  7. Kotak Mahindra  – Harsha Upadhyaya
  8. L&T – Soumendra Nath Lahiri
  9. Sundaram – Krishnakumar
  10. Mirae Asset – Neelesh Surana

Further, I am eliminating the below fund managers since they manage only mid & small cap strategies

  1. DSP – Vinit Sambre – Communication is good but a mid and small cap focused fund manager
  2. SBI  – Srinivasan: A mid and small cap focused fund manager + no clear communication in the website

If there are some managers who communicate well and yet I have left out in the list do let me know with the source link.

This leaves us with 8 fund managers and their respective funds:

  1. HDFC – Prashant Jain – HDFC Equity Fund
  2. ICICI Prudential  – Sankaran Naren – ICICI Prudential Large & Mid Cap
  3. PPFAS – Rajeev Thakkar – Parag Parikh Long Term Equity Fund
  4. Quantum – Subramaniam – Quantum Long Term Equity Fund
  5. UTI- Vetri Subramaniam – UTI Value Fund
  6. IDFC – Anoop Bhaskar – IDFC Core Equity Fund
  7. Axis – Jinesh Gopani – Axis Focused 25
  8. MOSL – Gautham Sinha Roy – MOSL 35

Now we will have to fit them along the growth-value spectrum

Investment Spectrum

Lets first fill the value bucket first..

1.HDFC – Prashant Jain – HDFC Equity Fund

An-evening-with-Prashant-Jain.jpg

What is his investment style?

  • Early identification of a cycle: He believes that the Indian market operates on the basis of cycles with clear sector leadership and positions himself ahead of a cycle
    • 1995-2000: Infotech was the sector leader
    • 2001-2007: Capex, Banking, Commodities
    • 2008-2015: FMCG, Pharmaceuticals, Automobiles
    • Going forward: Positioned for cyclical recovery via Infra/Banking/CapexHDFC Equity.png
  • Contrarian and Value Bias
  • No cash calls
  • Large cap bias
  • Buy and Hold investing – has a low portfolio churn

Source: https://www.morningstar.in/posts/39930/prashant.aspx
Source: https://www.morningstar.in/posts/44081/conversation-prashant-jain.aspx

Wow factors:

  • Value investing or early cycle investing means you will have to be ready to go through short term pain.
  • Both the fund manager and the AMC must be patient enough to let such a style run its course
  • Any new fund manager had he taken the same call  (of being overweight cyclicals and corporate banks) would have been out of job by now
  • In Prashant Jain’s own words – “The nature of a fund manager’s job is such that performance tends to be volatile particularly over short to medium periods. Further, given the relative nature of performance measurement, it is virtually impossible for a majority of managers to do well at any point of time. This, and the short-term focus of many market participants, could be important factors for the short tenures of mutual fund managers.”
  • So I think the biggest edge of Prashant Jain is behavioral – his conviction to stick with his call and the patience to ride short term pain
  • Given his long term track record, thankfully the AMC is also supportive of this style

Performance across market cycles

  • Historically he has been able to stay out of both the tech bubble of 2000 and Infra bubble of 2008 and has a proven long term track record of performing across cycles (19% CAGR for HDFC Equity vs 11% for Nifty 50 TRI for the 23 year period from Jan-95 till 29-Jul-2018)

Concerns

1.Fund size is very large

  • He manages two funds HDFC Top 100 and HDFC Equity and both have an overlap of 73% (check here)
  • The size of HDFC Top 100 is Rs 14,376 cr while HDFC Equity is Rs 20,352 cr. Also the balanced fund that he manages is 36,500 cr (of which 70% is in equity =  ~Rs 25,500 cr)
  • So he is in effect managing a whopping Rs 71,000cr in equity
  • It has been globally proven that a large fund size is detrimental to returns
  • Now the million dollar question is “What exactly is that large size?”
  • His historical arguments have been that “You guys are making a big deal about size. Internationally, these kinds of situations arise when the size of a fund reaches say 1 percent of the market. Why should I get worked up about size when my fund is around 0.12 percent of the market? The Indian markets are growing and as the size of my fund grows, the market will be even bigger”
  • Unfortunately since there are no formulas available to capture the size at which the fund performance will get impacted, we need to trust the fund manager or the AMC to close inflows when size becomes large
  • Their mid cap fund HDFC Mid Cap Opportunities is a whopping Rs 20,000 cr and also the largest mid cap fund (the next largest being 1/3rd of the size at ~7000 cr) – this implies possibility of a liquidity risk (i.e not being able to sell off their holdings if investors suddenly redeem) and also taking meaningful exposures becomes difficult as explained in the article here
  • Despite a lot of mid and small cap funds shutting their inflows at sub 5000 cr levels, HDFC Mid Cap Opportunities continues to be open for inflows
  • Now while its difficult to pass a judgement whether this is right or wrong, I am not getting the confidence that they would close their funds when size becomes an issue
  • He is currently addressing the size issue via concentrated positions (Top 10 stocks account for 60% of the entire portfolio) and higher exposure to large caps

2.Higher large cap exposure

HDFC Equity Fund Fund Portfolio HDFC Mutual Fund Value Research Online (1)

  • Given the large size, there is large overlap with the large cap index – ~40% overlap
  • In my view, out performance in the large cap space will become incrementally very difficult as the segment is tracked widely and hence the possibility of informational arbitrage is very low here (compared to mid and small caps)
  • Only behavioral edge can produce out performance i.e positioning early in the cycle and riding through short term pain – which is exactly what he is attempting

Communication:

  • The investment style of the fund is well communicated via their presentations available in their website
  • A lot of public interviews and videos are available
  • Further, morningstar which has a gold rating on him also takes extra efforts to explain his philosophy and his current bad patch as seen here and here

My view:

  • This fund will fit perfectly in the value end of the style spectrum
  • There is a good possibility that the fund will have one or two years of sharp out performance if his call of cyclical recovery starts playing out
  • However, size at some point of time will become an issue
  • Unfortunately, going by recent evidence (in HDFC Mid Cap Opportunities) I am not sure if they would let us know when that happens
  • Since I am on the lookout for a fund which I can stay invested for a long time (say 5-10 years), I am giving it a skip despite my high regards for the fund manager considering possible size constraints

2.ICICI Prudential  – Sankaran Naren – ICICI Prudential Large & Mid Cap

28088_Value-investing-requires-patience.png

Let me start with a honest confession. Out of all the fund managers I have ever met, I have learned the most from his interviews (be it the private ones via my organization or public ones). So I will be extremely biased and hence do take my views on Naren with a pinch of salt.

What is his investment style?

I have a done a extremely detailed post on Naren here which will help you understand his investment style better.

Click here for the short snapshot

Also here is the recent interview which you must not miss – Link

Wow factor:

  1. 27 years of Market experience covering 3 cycles
  2. 13 years of fund management experience
  3. Robust long term performance track record
  4. Consistent Investment Style  = Value investing + Contrarian + Evaluating Cycles + Top Down (using the big picture to arrive at stocks to invest in) + Bottom Up
  5. Macro overlay + takes advantage of cycles
  6. Knowledge of credit markets and credit cycles – its interplay with equities
  7. Ability to withstand and stick to investment process during occasional periods of short term under performance
  8. Widely read
  9. Investment Gurus – James Montier, Howard Marks, Michael Mauboussin
  10. Deploys checklists for investing – inspired from Atul Gawande’s Checklist Manifesto
  11. Communicates strategies and thought process regularly on public forums (making our lives a lot more easier)

Concerns:

  • The AMC has too many funds – more bordering on the asset gatherer types – especially had too many funds launched under their closed ended series
  • Signs of corporate governance issues at the AMC: Securities and Exchange Board of India (Sebi) has found that ICICI Prudential Asset Management Co. (AMC) Ltd bailed out the ICICI Securities Ltd initial public offering (IPO), and short-changed its unitholders in the process. Read here
  • There were some other questions raised by a site called Mutual fund critic here and here (while not a game changer, nevertheless it needs to be noted)

My view:

  • While there are some concerns on the AMC, I have a strong conviction on the integrity of the fund manager
  • Here is some support for my conviction from a very experienced and popular blogger Mr Subra in his blog Subramoney – Link: In defense of Naren
  • Naren’s experience and stature allows him the rare luxury to take near term pain and stay patient till the contrarian call plays out (which a lot of new fund managers will never have as the short sighted industry won’t let him/her survive)
  • I have high regards for him and I believe having his fund is one of the best ways to play the contrarian + value style in your portfolio

3.PPFAS – Rajeev Thakkar – Parag Parikh Long Term Equity Fund

rajeev_thakkar-1.jpg

What is his investment style?
  • Value Investing – buy an investment at a discount to its true value – applies to high growth companies, low growth companies as well as declining companies
  • Buy and Hold (reflected in low churn)
  • Concentrated Portfolio (<20 stocks)
  • Agnostic to geographies: 1/3rd portfolio in global companies
  • Not averse to taking cash positions if opportunities are not available
Wow Factors
  • High Conviction – The entire fund house just has one single fund – and this single fund runs a concentrated portfolio of around 20 stocks. So all the resources will be focused on this single fund and shows their conviction and belief. This is a welcome change from the majority of AMCs where they have several funds running different strategies so that at all points in time there will be one fund or the other performing.
  • Skin in the game – their own employees own around 10% of the scheme
  • Simple to track – as there are only 20 stocks and churn is low
  • Clear communication – These guys are way ahead of the industry and have phenomenal transparency in communicating their views and process. They have a good youtube channel (link) where the fund managers regularly communicate their views and also their annual investor meeting is available where they talk about the investment thesis behind their stocks
  • Exposure to global stocks – The fund provides diversification via 1/3rd exposure to global stocks

Performance across market cycles

  • The fund was launched in Jun- 2013 and has returned around 18.5% vs 15.5% in Nifty 500
  • Earlier it was running a PMS where it had returned 15% vs 13% in Nifty for the 17 year period between Nov-96 and Dec-13. This is very low compared to other good funds such as HDFC Equity (26%) , Franklin India Bluechip (25% CAGR) etc

Concerns

  • While intent and integrity is unquestionable, the past performance of their PMS over the long run has been very mediocre relative to other decent funds
  • However in their new fund avatar, their performance has been very good till date
  • They take large cash calls which might be a drag on their returns at some point in time

My view:

  • Personally, I like the fact that they have skin in the game, one single fund showing their conviction and they communicate extremely well allowing me to develop a high conviction on them
  • Global exposure is an added advantage
  • I don’t expect them to do well in a raging bull market and mostly their returns will be decent over a complete market cycle (as they fall less in a down market)
  • Their cash calls might be an issue in the longer run
  • I personally like the fund and would add it to the “value” end of the style spectrum

4.Quantum – IV Subramaniam – Quantum Long Term Equity Value Fund

maxresdefault.jpg

What is his investment style?

  • Value Investing
  • Buy and Hold (reflected in low churn)
  • Concentrated Portfolio (25 to 40 stocks)
  • Not averse to taking cash positions if opportunities are not available
  • Large cap bias

You can read about their entire process here

Wow Factors
  • High Conviction – The fund house technically has single diversified equity fund (ignoring the fund of fund and ELSS) runs a concentrated portfolio of around 25-40 stocks. So all the resources will be focused on this single portfolio and shows their conviction and belief.
  • Simple to track – as there are only 25-40 stocks and churn is low
  • Communication is decent – earlier it used to be much better when their founder Ajit Dayal was in charge (he quit recently)
  • Ability to stick to their process in the face of short term under performance (read here)

Performance across a market cycle

  • The fund was launched in Mar- 2006 and has returned around 14.4% vs 11.7% in Sensex
  • In the ~7 year period between Jan-2008 and Aug-13, which was one of the toughest investing environment for fund managers, the fund was the top performing fund amongst its peers with 4.5% CAGR compared to Sensex returns of -1%

Concerns

  • Their founder Mr Ajit Dayal has recently quit the firm (while a process has always been emphasized I generally take it with a pinch of salt)
  • They take cash calls which can be a drag on their returns

My view:   

  • Personally, I like the fact that they have they have one single fund showing their conviction and they communicate reasonably well
  • I don’t expect them to do well in a raging bull market and mostly their returns will be decent over a complete market cycle (as they fall less in a down market)
  • Their cash calls might be an issue in the longer run
  • My primary concerns are with two things – 1)Ajit Dayal moving out and 2) predominantly Large cap biased portfolio (more a personal choice as I would want a fund which is flexible to take mid cap exposure when valuations are attractive)
  • The fund would fit into the “value” end of the style spectrum
  • While I like the fund, I would give it a skip as Rajeev Thakkar and Naren’s style is very similar in nature and also they have far more flexibility in moving across mid and small caps
Summing it up
So based on the above analysis I have come up with my shortlist for the value bucket.
Selected Fund Managers

Now don’t get too fixated by the final choice of funds but rather focus more on the thought process and gradually you can evolve your own process. Remember, there are no sacrosanct rules to pick funds and you can pick any fund based on your own parameters.

The real idea is to go beyond returns and identify funds/fund managers where you can derive conviction based on better understanding of their investment process and style. This will allow you to patiently stay with the fund across a market cycle and reap the benefits.

(to be continued…)

In the coming weeks, I will fill the other two buckets – Growth and Blend. Then I will build a live SIP portfolio where I will be investing my own money for the next 5-10 years.

This post is my little attempt to create happy investing experiences to each one of you. If you loved what you just read, share it with your friends and don’t forget to subscribe to the blog along with the 4500+ awesome people. Look out for some fresh, super interesting investment insights delivered straight to your inbox. Cheers!

Stay blessed and happy investing folks!

If in case you have any feedback or need any help regarding your investments or want me to write about something, feel free to get in touch at rarun86@gmail.com

Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments.

How do we experience good performance?

10 minute read

In our last post here, we took inspiration from Steve Jobs and had decided to simplify our investment portfolio.

The key conclusions were:

  1. Limit the total number of equity funds in a portfolio to less than 4
  2. Only 3 categories for fund selection process
    • Multi-cap Category (core) – 4 funds
    • Mid Cap Category  – 2 funds
    • Small Cap Category – 2 funds

This week, we shall move on to the next step of “setting the right expectations”.

Setting the right expectations

Now before we move on to choosing funds (which in my opinion is really not the game changer it is made out to be), we need to answer the most important yet ignored question.

  1. How do we experience “good” performance? How do we know if we are in the right or wrong portfolio?

When it comes to evaluating investment performance, there are two types of people based on their expectations.

Let us call them

  1. Mr Absolute Abhijit – he needs absolute positive returns come what may
  2. Mr Relative Raju – he needs relative out-performance i.e either to beat his benchmark index or peer group

So whenever the above two open their portfolios and evaluate their returns their perception of good and bad performance will vary as shown below

Regret Chart

Both Absolute Abhay and Relative Raju agree that beating the markets in a rising market is good while under performing during a falling markets is bad. However both disagree on out performance in falling markets and under performance in rising markets.

Now the sad truth is that all of us have shades of “Absolute Abhay” and “Relative Raju” within us. We also keep shifting between these two frames – focusing on absolute performance in negative markets and relative performance in positive markets.

Thus our evaluation of portfolios ends up looking like this..

Regret Chart 1.png

We are happy only when we outperform in a positive market and remain unsatisfied at all other quadrants!

This personally to me, is by far the biggest problem in equity investing as given our unreasonable expectations and short time frames for evaluation, we end up being unhappy investing in equities for most of the time periods.

How do we solve this ?

Let us delve into each and every quadrant in detail..

Quadrant 1: Positive markets + Outperformance

This is a no brainer. This is exactly what we want and naively wish for every time we evaluate our portfolios.

So no problem as long as it is in this quadrant!

But just to be on the safer side, if the outperformance is dramatic then do investigate as to what is causing this (sector calls, concentration, stock picking, market cap allocation, asset allocation etc)

Quadrant 2: Negative markets + Outperformance

Let us be honest. While we might have outperformed on a relative basis, no one loves to see their hard earned money fall in value and this obviously is painful.

Sensex Return Distribution.png

But the reality is that short term declines are inevitable in equity investing. The holy grail of moving out just before a decline and entering just before an up move just doesn’t exist.

Historically, for someone who evaluated his equity portfolio every month, roughly 40% of the time, he would have found that his portfolio had fallen from his previous evaluation point value.

If he extends his evaluation period to 1 year, then still 30% of the times his portfolio would have been down from the previous evaluation point.

Thus if you are evaluating in shorter time frames, you will definitely see losses a lot more often and as a result your overall investment experience will mostly be unsatisfactory despite the fact that the odds are on your side for a good outcome in the long run..

Once you have decided to live with the fact that temporary declines are inevitable, you can decide on the extent of decline you can take and adjust your equity exposure accordingly (what is called asset allocation)

Takeaway: This entire quadrant of a falling market cannot be wished away and most importantly cannot be addressed by mutual fund selection.

It can only be addressed by

  1. Extending Time frame
  2. Asset allocation
  3. Tactical Asset allocation – if you have the expertise, then equity allocation can be adjusted (increased on decreased) based on market conditions (extremely difficult in practice)

If you have the time here is an interesting article on how even if god was your fund manager you wouldn’t be spared of this quadrant’s pain – Link

Quadrant 3: Negative markets + Underperformance

This I believe is a quadrant we must be worried about if our funds fall here. While we have no control over the markets, however if our funds are falling much more than the benchmark or peer group, then this may indicate that our chosen fund has taken higher risks.

Consider this an initial warning signal and we might have to deep dive into the portfolio and find out what exactly is happening.

Again the time frames shouldn’t be too short but at the same time unlike a longer time frame in our previous quarter, a 1 year time frame can be used to evaluate this quadrant.

“Over time, bad relative numbers will produce unsatisfactory absolute results.” – Warren Buffet

Quadrant 4: Positive markets + Underperformance

This is the quadrant where most of us tend to make mistakes and in a knee jerk response quickly exit and mover to newer funds.

Unfortunately, this happens as we don’t appreciate the fact that
Even good funds will inevitably have to undergo periods of underpeformance in the short run to perform in the long run

Let us listen to what Corey Hoffstein has to say about this phenomenen in this interesting article here

  • In an ideal world, all investors would outperform their benchmarks. In reality, outperformance is a zero-sum game: for one investor to outperform, another must underperform.
  • If achieving outperformance with a certain strategy is perceived as being “easy,” enough investors will pursue that strategy such that its edge is driven towards zero.
  • Rather, for a strategy to outperform in the long run, it has to be hard enough to stick with in the short run that it causes investors to “fold,” passing the alpha to those with the fortitude to “hold.”
  • In other words, for a strategy to outperform in the long run, it must underperform in the short run.
  • We call this The Frustrating Law of Active Management.

Now don’t go by my words or Coreys. Let us go with facts.

Let us pick the top 5 funds of the last 10 years (as on 20-Jul-2018)

Fund Selector   Returns   Value Research Online.png

Assuming you had the foresight to correctly pick them, would Quadrant 4 (under performance) still happen to these top performers at different points in time?

HDFC Mid Cap Opportunities

HDFC Mid Cap Opportunities Fund Growth Mutual Fund Performance Analysis

DSP Blackrock Small Cap Fund

DSP BlackRock Small Cap Fund Growth Mutual Fund Performance Analysis

Canara Robeco Emerging Equities Fund

Canara Robeco Emerging Equities Growth Mutual Fund Performance Analysis

IDFC Sterling Value Fund

IDFC Sterling Value Fund Regular Plan Growth Mutual Fund Performance Analysis

Aditya Birla Sun Life Pure Value Fund

Aditya Birla Sun Life Pure Value Fund Growth Mutual Fund Performance Analysis

Source: Morningstar

As seen in all the above cases, it is inevitable that all these funds though gave good returns over the long run had to go through under performance in the short run.

(the above examples are just for illustrative purposes and I have conveniently ignored other issues such as size, change in fund manager, strategy etc which may have impacted performance)

Now this will be the case irrespective of whichever decent fund you consider in India or across the world. In fact, even the Warren Buffet has lagged the market one out of every three years.

So for us what this means is when we hit this quadrant  – Underperformance needs to be put in context

  • Underperformance of funds is not necessarily always bad
  • Occasional underperformance in equity funds is inevitable
  • Understanding when the fund manager’s style is expected to do well and when it may struggle is the key to evaluate the underperformance
  • Evaluation of performance across a complete market cycle (covering a bull and a bear market) gives us a better picture

Performance evaluation framework in a nutshell

Thus now that we have a much better understanding of the 4 quadrants our new evaluation process looks like this

FOUR Framework.png

Summing it up

  • While picking good funds is important, even more critical is our discipline to stick to the fund during periods of under performance in the short run
  • This boils down to setting realistic expectations – which can improve our outcomes by reducing the possibility of us panicking and taking emotional decisions
  • We usually have an absolute reference in falling markets and relative reference in positive markets – implying most of the times we will be unsatisfied
  • Performance can be viewed in four quadrants – outperformance and underperformance in falling and rising markets
  • Outperformance in a falling market is still painful; cannot be solved by fund selection – longer time frame + asset allocation is the solution
  • Underperformance always needs to be put in context – it is not necessarily always bad as occasional underperformance is inevitable even for good funds
  • Understanding when the fund manager’s style is expected to do well and when it may struggle is the key to evaluate a fund
  • Evaluation of performance across a complete market cycle (covering a bull and a bear market) gives us a far better picture to evaluate the process
  • This implies a good fund selection process must address two things
    • Performance and risk measured across a complete market cycle
    • Understanding of the fund’s investment style and process
  • A fund’s communication to us on its style and process hence will form a key part of our evaluation

This is an evolving framework to evaluate performance and would love to hear your thoughts so that we can further improve on it.

In the next week, I will take you through my process of picking the funds.

Cheers and happy investing!

If you loved what you just read, share it with your friends and don’t forget to subscribe to the blog along with the 4500+ awesome people. Look out for some fresh, super interesting investment insights delivered straight to your inbox. Cheers!

If in case you have any feedback, need any help regarding your investments, want me to write about something or discuss regarding job opportunities, feel free to get in touch at rarun86@gmail.com

Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments.

What if Steve jobs was an Indian equity mutual fund investor?

Selecting equity mutual funds just got way too difficult..

In my last post here, I had discussed on why equity fund selection will become a lot more difficult going forward due to

  1. Recent fund manager changes
  2. Reclassification of funds due to SEBI regulations
  3. Poor communication from most of fund houses

This implies that for many funds, looking at past performance and all the other usual metrics (such sharpe ratio, treynor ratio etc) to compare and identify funds will not work well anymore.

So how do we solve this problem?

Let us take help from one of the best minds that ever lived..

10-Things-We-Can-Learn-From-the-Incredible-Steve-Jobs.jpg

I am lost! Dear Steve Jobs, can you help me with fund selection?

Let’s rewind back to a period, when Steve Jobs was facing a similar issue..

After being fired from his own company, in what would be one of the greatest comeback stories ever, Steve Jobs was once again called back after 12 years in 1997 to save Apple from the brink of failure.

When Steve returned, Apple was in a bad shape. It had a huge and confusing array of products, no clear strategy, and was losing several million dollars every quarter.

For eg, Apple had a dozen versions of the Macintosh, each with a different confusing number, ranging from 1400 to 9600.

“I had people explaining this to me for three weeks!” Jobs said.

Unable to explain why so many products were necessary, Jobs asked his team of top managers, a simple question –

“Which ones do I tell my friends to buy?”

When he didn’t get a simple answer, Jobs went ahead and reduced the number of Apple products by a whopping 70 percent!

Moving forward, his strategy was to focus and produce only four products: one desktop and one portable device aimed at both consumers and professionals.

“Deciding what not to do is as important as deciding what to do” – Steve Jobs

It is this ability to focus that saved Apple.

stevejobs.jpg

Takeaway: Focus & Simplicity..

How do we apply this to our fund selection process?

When it comes to investment portfolios, less is more..

Having reviewed over 2000+ individual investment portfolios over the years, this is my key learning –  majority of problems arise because of us overlooking this simple question..

How many funds do we really need to build a decent equity portfolio?

For any equity investor, the simple objective is to become silent partners (owners) in a group of good Indian businesses from different sectors and patiently participate in the growth of these businesses.

Mutual Funds, ETFs, PMS, AIF etc are actually intermediaries who help us with the above objective.

However, since every fund we pick is a single line item in our portfolio reports, we often forget that each and every fund is well diversified in itself and usually holds around 40-60 businesses on average.

 

Dev5cX6XkAEWdAk (1).jpg

Just like all the above menu items, ultimately represent a form of maggi, all equity mutual funds are in essence an indirect form of ownership in a bunch of good  businesses.

Most of us while we start with less no of funds, we eventually end up adding new funds in the name of diversification, based on the flavor of the season, recent performance, advisors recommendation etc. Gradually over time our portfolios end up having too many funds.

This is like ordering one spoon of all different maggi flavors in a single plate! 

turkmenistan-orient-family-motorcycle-india-1024x808.jpg

This generally leads to a large overlap of stocks across funds, insignificant impact on both upside and downside due to low exposure in individual funds and eventually ending up with far too many stocks thereby unintentionally replicating an index fund exposure (which you can instead buy directly at a much lower cost)

Let us see what Steve Jobs has to advise us in this regard..

“In product design and business strategy, subtraction often adds value. Whether we’re talking about a product, a performance, a market, or an organization, our addiction to addition results in inconsistency, overload, or waste, and sometimes all three. A designer knows he has achieved perfection not when there is nothing more to add, but when there is nothing left to take away.”

So the first starting point is to set a boundary on how many funds you must have in your portfolio.

less-is-more.png

While there is no sacrosanct rule – I have personally kept a limit of maximum 4 funds in my equity portfolio.
(Usually 2-4 funds is the range I would like to work with)

The idea will be to have low overlap and diversify across styles (value, quality, growth etc) and market cap segments (small, mid, large).

This helps us to focus and not to be distracted by new shiny toys (hot themes, NFOs, recent performers etc) every now and then.

Choosing Categories..

Earlier there were no strict definition for the various categories of funds.

However, post the new SEBI ruling, fund categories have been clearly defined and all funds will have to stick to their category rules. This makes our job a lot easier as once we decide on the categories we don’t need to worry on whether the funds will stay true to their category.

So let us evaluate the various categories and decide on categories which will make sense for us.

Pruning-e1504000020504.jpg

There are 9 categories under equity funds which way too high a number!

SEBI Equity Fund Categories .png

Source: Value Research

“If you give the consumers too much freedom, they are overwhelmed by choice and confusion. If you limit their freedom by too much simplicity, they feel constricted. The trick is selecting the right places to restrict consumer options.” – Steve Jobs

Since we have already restricted ourselves to less than 4 funds, I usually prefer the core funds of my portfolio not to have any restrictions in terms of which market cap segment to invest (across small, mid and large cap segments). I would rather let the fund manager decide wherever there is opportunity and to invest without any restriction.

Hence, multi cap category funds (which don’t have any market cap restrictions) will form the core of my portfolio.

Also if you notice, the categories Dividend Yield, Value/Contra have no clear cut definition – in other words for all practical purposes these are again multi cap funds.

I would also consider focused funds as a part of the multi-cap category as they also don’t have any restriction in investing across large, mid and small caps. Their only requirement is to keep the overall no of stocks to less than 30.

Also Large and Mid cap category while they have restriction of 35% minimum each in mid cap segment and large cap segment, still in reality will end up more or less similar to any other multi cap fund.

William-Shakespeare-quote-530x256.jpg

Thus Multi Cap Category funds for my selection process will include

  1. Multi Cap funds
  2. Large & Mid Cap Funds
  3. Dividend Yield Funds
  4. Value/Contra Funds
  5. Focused Funds

“We wanted to get rid of anything other than what was absolutely essential, but you don’t see that effort. We kept going back to the beginning again and again. Do we need that part? Can we get it to perform the function of the other four parts?” – Steve Jobs

Sector Funds will be eliminated..

To pick sector funds implies I need to do my analysis on what is happening in the sector, take a view on the various drivers of the sectors and most importantly time both the entry and exit into the sector. Too much of an effort and hence the lazy me has decided to give this category a skip.

Thus we are left with Large, Mid and Small cap categories.

Large Caps: Prefer Index funds instead

This is a space where I believe post the new classification norms, beating an index fund is going to become incrementally difficult.

Let me explain why..

  1. Going forward, new rules by SEBI make it compulsory to hold 80% of portfolio in top 100 stocks at all points in time – earlier since there were no agreed rules, the mid & small cap allocation was used to improve returns and used to be in the range of 10-30%. This gave funds an unfair advantage over pure large cap Nifty index against which they were compared. This advantage is reduced to the extent that they can take exposure to mid/small caps only upto 20%.
  2. Earlier the Nifty Index returns were reported without the dividend portion which meant the returns were understated by roughly 1%, giving an additional advantage for large cap funds to optically show out-performance. This advantage is no more available for funds as the new total return index includes dividends.
  3. The costs of large cap ETFs have dramatically come down, to the extent that they are almost free (they are available at 0.05%. Check here)
  4. In developed markets, evidence points out that the passive funds (read as index or ETF funds) have a clear advantage over active funds. Thus eventually as the Indian markets mature and gets more participants and wider tracking, it will become incrementally difficult for large cap fund managers to provide large out performance in the well researched large cap segment
  5. Ambit has done some research on this here and comes to the same conclusion
  6. Even a fund house (Edelweiss mutual fund) has acknowledged this and has reduced their expense ratios in large cap category. (source)

Thus given the above apprehensions I am doing away with this category.

Mid Cap Category and Small Cap Category: Will be used opportunistically when category valuations are attractive

Over the long run, the mid and small caps are expected to outperform the large cap category. However they will remain extremely volatile with severe ups and downs and valuations need to be taken into account while investing in this category. This will be our second and third category for fund selection.

Thus we will in effect have three categories from which to select funds:

  1. Multi-cap Category – 4 funds
  2. Mid Cap Category – 2 funds
  3. Small Cap Category – 2 funds

These 8 funds will be our universe from which we will be constructing our portfolios. Mostly as stated earlier, I will be working in the range of 2-4 funds picked from the universe.

Summing it up:

  1. Inspired by Steve Jobs, my philosophy of fund selection and portfolio construction – Focus and Simplicity
  2. I will limit the number of equity funds in my portfolio to less than 4
  3. I will have only 3 categories for my fund selection process
    • Multi-cap Category (core) – 4 funds
    • Mid Cap Category  – 2 funds
    • Small Cap Category – 2 funds

(to be continued)

In the coming weeks, I will discuss in detail my thought process on how I personally go about with my fund selection and portfolio construction.

Till then, keep rocking and happy investing as always 🙂

If you loved what you just read, share it with your friends and don’t forget to subscribe to the blog along with the 4500+ awesome people. Look out for some fresh, super interesting investment insights delivered straight to your inbox. Cheers!

 

If in case you have any feedback, need any help regarding your investments, want me to write about something or discuss regarding job opportunities, feel free to get in touch at rarun86@gmail.com

Disclaimer: All blog posts are my personal views and do not reflect the views of my organization. I do not provide any investment advisory service via this blog. No content on this blog should be construed to be investment advice. You should consult a qualified financial advisor prior to making any actual investment or trading decisions. All information is a point of view, and is for educational and informational use only. The author accepts no liability for any interpretation of articles or comments on this blog being used for actual investments