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Shridatta Bhandwaldar, Head – Equity, find out how he managed an impressive performance. She also asked Bhandwaldar for his thoughts on the market and advice for investors.
The Kanara Robeco Small Cap Fund offers a 16% return in one year. It significantly outperformed both its category and its benchmarks. 2022 has been a tough year for small cap funds. How do you see this year?
After a brilliant CY21 in 2021, it has been a difficult year for both the market in general and the small cap category. We will stick to the quality of our business/management/balance sheet and continue to focus on trying to identify deviations in earnings to the best of our ability throughout the cycle. CY22 also helped in the small-cap category, where volatility emerged after CY21’s breakthrough. In terms of sectors, industrial goods, hotels, hospitals, and some financial/auto companies underpinned his CY21 portfolio.
Your current portfolio is categorically different – more in mid caps and less in small caps. What is the thought process behind it?
In the second half of CY21, a surge in valuations in the context of earnings was seen in some pockets of small-cap stocks. This is why it has drifted away towards relatively big names among mid/small companies with similar growth profiles. Looking at CY22, we see a significant reduction in earnings and relative performance variability between the small- and mid-cap and large-cap categories.
We manage a diverse portfolio. Only 20% are in the top 10 stocks. There are also 75 shares in the portfolio. Since it is a small-cap scheme, is diversification being done consciously?
Diversification in the small-cap category is generally higher than in other categories, given the smaller size of the business, small-cap mortality rates, etc. Last year, we deliberately diversified given the high volatility expectations of this category. Flow also resulted in relatively long tails. On a normalized basis, the small cap portfolio has 55-65 socks.
What are your thoughts on the small cap space? Will small cap schemes come under pressure?
Looking at medium-term returns for small-cap, mid-cap, and large-cap indices, all categories perform in roughly the same bands at the mid-term. The small-cap exuberance has been corrected over the past year, so we believe the difference in returns between small-cap, mid-cap, and large-cap stocks is irrelevant from a short-term perspective. That said, in the long run, small caps can offer plenty of opportunities for alpha generation on a bottom-up basis, so investors consider this category with a 3-5 year horizon. is needed.
A higher interest rate scenario should be negative for SMEs. Do you expect interest rates to ease in 2023?
In general, rising interest rates can be negative for equities if they affect earnings disproportionately. So far, we have only experienced valuation revisions due to rising discount rates and interest rates. Given that the system is less leveraged, the increased impact of interest rates on small caps should be smaller this cycle. With interest rate cycles now appearing to be peaking, the incremental impact on valuations should be limited. What matters in CY23 is the impact on earnings growth of rising interest rates and other macro issues around us today. Earnings growth will dictate the direction of his CY23 category, and there are plenty of opportunities to pick individual stocks.
What would you tell small cap investors in 2023? What are the dos and don’ts of 2023?
Investors in the small-cap category should stay invested and focus on medium-term horizons and risk-adjusted returns. You should be very careful about the types of businesses and management you include in your portfolio. As India is a growth market, there are opportunities to generate alpha every year on a bottom-up basis with minimal risk.