Cricket and stock markets are two topics that trigger passionate conversations in most Indian households. And to be honest, there is a striking similarity between these two facets of life. Test cricket, which is the purest form of the game, is a test of one’s patience, perseverance and skill. Similarly, to be successful at equity investing, an investor needs to exhibit traits of long-term investing (patience), holding on during difficult times (perseverance) and investing in the right companies (skills).
To win a Test match, a team needs to a) follow the grind for the entire five days, b) win more sessions than the opponents in order to emerge victorious. Likewise, to create wealth, an investor needs to a) stay invested across the entire period, b) have more winning years in order to compound his/her wealth at the end of their investment tenure.
A team of 11 players is a combination of different styles and approaches, a diversification quality of prime essence to build a successful team under all types of playing conditions. The players will be challenged by different playing conditions and opponents and each player might not have the best skill set to perform in different environments.
In the world of equity investing too, there are different styles and approaches to portfolio management. An investment style/approach is defined as an investment strategy/philosophy that tells us about the portfolio manager’s approach to portfolio construction. Some of the most renowned investment styles are growth, value, quality, momentum, dividend investing, etc.
Empirical evidence suggests that quality has outperformed and remains an ideal investment philosophy for long-term wealth creation. Quality per se, as an investment style, does not have a clear outlined definition unlike growth and value investing. But when it comes to identifying quality stocks, in our opinion, it connotes a combination of quantitative and qualitative factors.
The quantitative factors refer to stable cash flows, consistency in earnings, high profitability margins, etc. Such attributes are found in secular compounding stories, which, irrespective of the market cycle, tend to deliver on the above parameters.
The carnage in March 2020 saw stocks across the board witness severe drawdowns in prices. But the cyclical (high beta) ones were the most impacted as the fear of the unknown created uncertainty in business activity.
Expectations were rife about a strong bounceback in the Indian economy after a disastrous Q1FY21 GDP (gross domestic product) print of -23.9%.
Given the positioning, the market preference was heavy towards cyclicals. The accompanying graphic (see above) drives home the point on how the past 12 months have been a classic play on stocks that were high beta in nature combined with low RoEs (return on equities).
Different market conditions are suited for different investment styles and 2020 was the year when cyclicals were in the limelight. But to win over the long term, an investor’s portfolio needs to have an investment style that will deliver more consistently rather than in bouts.
At Axis Asset Management Company (AMC), our overarching theme of portfolio management has always been quality. We believe so because, from an Indian context, there is a huge dispersion between performers and non-performers and one major attribute has been the quality of these companies. Second, long-term sustainable growth is achieved only if quality is an inherent characteristic among companies.
Our investment thesis is derived from identifying secular compounding growth stories that are structural in nature and have the ability to deliver for extended periods of time, rather than cyclical ones as these tend to be more volatile in earnings delivery.
The proposition has worked well for us over the past decade and we continue to remain positive going ahead as well.
Jinesh Gopani is head of equity, Axis AMC.