India Capital Growth (IGC) has reported interim results to 30 June 2020, with the NAV declining by 20.4% over the six months. The NAV increased by 22% from the low reached on 31 March and has continued to recover since the period-end, increasing by 14%, as at 31 August.
Performance attribution – Aurobindo Pharma leads gains while financials, consumer staples and sole IT services holding detract
IGC’s manager noted that relative performance against the benchmark BSE Midcap index was negatively impacted by three sectors in particular:
- Financials was the negative contributor driven by fears that asset quality would continue to be impaired as a consequence of the pandemic and investors would be required to inject additional capital.
- Consumer staples exposure also weighed on performance as the sector’s premium valuation was impacted by a slowdown in consumption that gained momentum as the lockdown came into force. IGC investee companies Bajaj Consumer Care and Kajaria Ceramics were principally responsible for the underperformance.
- Lastly, Tech Mahindra, the portfolio’s only exposure to the IT services sector, fell sharply over the period due to the majority of its telecom related clientele being US and European based in anticipation of lower economic activity.
On the positive side, IGC’s exposure to the energy and utility sectors delivered relative value against the benchmark, as did the consumer discretionary sector to which the portfolio had limited exposure.
At a stock level, Aurobindo Pharma was the strongest contributor as the pharma sector outperformed, with Neuland Laboratories also providing a positive return. PI Industries, a manufacturer of pesticides and at times IGC’s largest position, delivered absolute returns in a falling market, as has the recent portfolio purchase, Gujarat Gas.
Promising early signs from new holdings in the period since June
IGC note that the major driver of better performance of late has been a combination of new portfolio entrants (Neuland Laboratories up 119%, weighting 2.0%) and the portfolio’s exposure to the cement sector (Sagar Cements up 63%, weighting 1.9%). Other stocks such as BLS Services, Skipper, Welspun India and Indusind Bank, considerable laggards in 2019, have started to recover as the market looks through the current uncertainty to a resumption of economic growth.
Commentary from Ocean Dial, IGC’s manager
“At the time of writing India has reported close to 5.6m infected individuals and is closing in on the United States as the country with the highest reported number of cases. The numbers are huge, and the country as a whole is not yet seeing a flattening of the curve, but as a percentage of the total population it is low by comparison to many others. In addition, although the pandemic has spread across a wider part of the population, just five States make up the bulk of reported cases; the main cities of Mumbai and New Delhi are coming under control as these local curves start to flatten out. India’s recovery rate is rising, and its fatality rate remains low (at 2%) by global averages. It would seem that some combination of a young and resilient population and a warmer climate are ensuring, for the time being at least, that India is managing better than many had predicted.
In spite of the uncertainty that permeates, there are many reasons to be optimistic. The Government has maintained fiscal integrity in its handling of this crisis. Although the fiscal response headlined at over 10% of GDP, the incremental costs to the Exchequer were closer to 1% for this year, focusing on small business, agriculture and the poor. The fiscal deficit will expand substantially even so, as tax receipts collapse, but spending is constrained and overall Government debt levels are manageable (particularly by developed market standards), and predominantly locally financed. The current account deficit has shrunk as the value of imports, helped by lower international oil prices, have fallen more than exports and there is evidence of a pickup in import substitution, particularly in electrical equipment, which suggests a structural lowering of imported components for the long term.
Currency reserves now exceed US$500bn and continue to reach new highs, protecting the economy from external shocks and supporting the value of the Rupee. This has been a standout performer over the period, rallying 1.5% against the Pound Sterling (though 6.5% weaker versus the US Dollar), which is a big step change from previous crises when the currency collapsed and is today the case with other developing peers. Foreign Direct Investment levels (FDI) remain very healthy, buoyed by India’s largest company by market capitalisation (Reliance Industries), raising US$20bn from foreign investors in the midst of the crisis. Facebook, Google, Qualcomm and Microsoft all invested, demonstrating that India’s digital consumer remains uppermost in the strategic thinking of the only industry that seems to matter. Indeed, as has been witnessed in major economies globally during the crisis, the acceleration of the digitisation of the economy, as consumers spend more time and resources online, is playing out in India as rapidly as anywhere. Here, however, the potential for sustained growth is far more exciting since smartphone penetration is low by global standards, whilst data consumption per capita is high, and incomes are forecast to rise for a generation.
Another important shift in global activity which is already benefitting India is a shift in global supply chain dependence away from China. Trade wars and COVID-19 aside, India’s labour cost is now one-third of China’s, and we are already witnessing global corporates using India as an alternative hub, albeit in niche sectors today. India-based manufacturers of active pharmaceutical ingredients and speciality chemicals, in particular, are seeing gains in market share, as are electrical equipment makers (TVs, washing machines, mobile phones etc) now that the Government is incentivising local producers. There are multiple opportunities here and the inflection point may turn out to take several years to play out, but if the Government can do its bit, there is much to play for here.
On account of a lengthy period of underperformance in the portfolio and the resultant expansion of the share price discount to net asset value, many investors will be aware that the board brought forward the company’s continuation vote from September to June. Inherent to the successful outcome was a commitment by the manager to deliver better performance going forwards. Indeed, this has been our particular focus for the last twelve months. We have strengthened the investment team and overhauled the investment process, following a root and branch review, adding one portfolio manager and two-sector analysts. The process has been given more focus, enabling analysts to devote more time to pre-approved investible universe, leading to more objectivity to portfolio construction and tighter sell discipline. We have chosen to close an open-ended product with a similar investment strategy in order to free up team capacity, now redeployed to the India Capital Growth portfolio. The attribution report for the period does not capture the extent of the turnaround in performance because the evidence is only recently beginning to show through.”
Readers interested in reading the full commentary can do so by clicking here to access the RNS release.
IGC: Early promise shown by some of India Capital Growth’s newer holdings