Investors should not invest separately in infra-specific themes if the sector has enough representation in their portfolios

Icra Online Research

The fact that the infrastructure sector is important in India is a foregone conclusion. Every major policy initiative has the word infrastructure stamped on it. When an economy grows at 8-10%, the sustainability of the growth rate hinges on the pace of infrastructure development. Understanding these dynamics, mutual fund houses in India launched a theme based portfolio that aims to capture the gains in corporate India from this infrastructure development.

Crackling performance

Until 2007 infrastructure funds were unbeatable. The category on an average returned 53.62% in 2006, when the average diversified fund delivered a lesser 34%. In 2007 an average 82.7% delivered by infrastructure funds was astounding, as against the much lower 60% delivered by an average diversified equity fund. Therefore, it was no surprise that infrastructure funds topped all the charts and overshadowed every other theme. But come 2008 and the market slide, barring one fund, their performance was nothing to write home about. In 2009 while the recovery was underway, these funds didn't manage anything drastically different than the average diversified equity fund and nothing on the lines of their scintillating performance in 2006 and 2007. Five-and-a-half months into 2010, investors are still waiting for a brilliant performance. Year to date, as of May 19, 2010, the average infra fund is in the red, having mounted an average loss of 2.7%. In comparison the average diversified equity fund has managed to better that, by delivering a loss of 1.3%. But what is even more disappointing is that while some diversified funds have managed to deliver 8.7% in the year so far, the best infrastructure fund has yielded only 2.2%.

Inflexion point

We looked at the quarter-on-quarter returns of infrastructure funds and clearly the inflexion point in their slowdown appeared in the quarter ended March 2008. In the eight quarters since then, they have impressed only once compared to their more diversified peers.

In the first six months of 2008 these funds bled and a closer look reveals that the price-to-earning (PE) ratios of the top 20 stocks held by infra funds were way above the average PE of any respectable index. The portfolio PE of infra funds on the eve of the market crash in 2008 ranged between 40 times and 57 times of earnings (as of December 31, 2007). Compared to this, the PE of BSE100 and BSE200 hovered around 28 times.

Currently, fund managers have rationalised portfolios; while the PE of infra funds continues to be higher than most broad market indices, the deviation is far less.

Another reason why the infrastructure funds tanked was because of the inherent nature of their investment mandate. By and large these funds are likely to limit themselves to sectors such as capital goods, construction, metals, oil & gas, banking, cement, telecom and transportation sectors. And the absence of FMCG, technology and pharmaceuticals meant that these funds did not hold positions in sectors which regressed much less than others in the 2008 downfall.

Strategic changes

Once bitten twice shy; a syndrome clearly evident among infrastructure funds. Some of the most aggressive funds of 2006-2007 have toned down their aggressiveness while the newer schemes, launched after March 2008, are currently sporting aggressive portfolios. We looked at the top 10 holdings of infrastructure funds to appreciate where the largest bets are being made.

Having burnt their fingers in sectors such as metals which plummeted 74% in 2008, infra funds drastically reduced their holdings in this space, thereby missing the fabulous rally posted by this sector in 2009. The BSE Metal sector returned an impressive 233% in 2009. SAIL and Tata Steel were part of the top holdings of infrastructure funds. However, as of April 2010 the allocation here is not aggressive. Currently, only the infrastructure schemes launched after the 2008 fiasco are investing aggressively in the metal space. A similar case emerged in the capital goods segment, where high allocations before 2008 gave way to lower allocations in 2009; at a time when the BSE CG delivered an impressive 104% in 2009.

Where have the funds been redirected? Infrastructure funds preferred upping their allocation to the banking space, where historically most infrastructure funds have been underweight. As of December 2007, ICICI Bank and SBI were the only banking scrips present in the cumulative top 10 holdings of infra funds. However, this list has grown to include scrips such as HDFC Bank and Axis Bank. Telecom is another segment where these funds have upped their holdings. Also, oil & gas continued to be a big part of the portfolios.

All this does not mean that investors ought to redirect their investments elsewhere. But have a look at your diversified equity scheme, if you find that there is enough representation of the infrastructure theme, then it is not necessary to invest separately in an infrastructure-specific theme.

Source:http://digital.dnaindia.com/