Interview With Mid-Cap Mogul Kenneth Andrade

Kenneth Andrade Interview Midcap
Image Source: Livemint


I recently had the privilege of talking to Kenneth Andrade, who is widely acknowledged as one of the best fund managers in the mid-cap space in India.

Most people already know this legend and many refer to him as the ‘Mid-Cap Mogul’. Hence, an introduction is not necessary in Kenneth’s case. But for those who don’t know, he was the fund manager of IDFC Premier Equity Fund – one of the most popular and best performing mid-cap funds ever.

Ability to think out-of-the-box to identify the big theme, build investment hypothesis around it and most importantly, convert it into winning investments. This was and is his expertise. Now he has moved on from IDFC MF and turned into a private investor.

In this interview, he answers my questions about investor psychology, investing in stocks for the long term and mutual fund investing.

So here it is…

Common Investor Psychology

Dev: One of the biggest problems of common investors is their inability to sit. So how does an investor stay put even if (say) markets have moved from 10,000 to 20,000 in just a couple of years and he/she wants to book profits?

Kenneth: Investors do stay put in investments; except in equities. This probably is associated with the volatility of the asset class and the lack of a fixed return or physical asset.

Also no one likes negative returns and the equity asset class can’t promise that every year.

The western world has found a way around this with their pension plans. India still needs to get there. As a discretionary investor they will always give into greed at the top of the markets and fear at the bottom of the cycle. Hence the only way out is to package products, which eliminate or smoothen out volatility. Manufacturers in India have been experimenting with hybrids. They tend to cushion the volatility of the markets. Maybe that’s one way to keep the investor interested. It may not be the most efficient way of equity investing but the yields across market cycles would still be higher than mere fixed income products.


Dev: It is said that in investing, it’s very important to avoid making big mistakes. Even someone like Charlie Munger believes, that not making big mistakes is a huge determinant of whether one will have financial success in life or not.

How does a common investor identify his limitations, create a simple mental framework and more importantly, implement this framework to avoid making big mistakes?

Kenneth: The way I would address this is to invest in what you know. I am very apprehensive in putting money to work either in a company or an investment, which I don’t understand. I guess the same would apply to any investor.

One way of avoiding mistakes is to understand what you do, that way you can identify and correct it when and if it does go wrong. If you don’t know the investment, you would never know if things are going wrong in the first place.


Dev: What according to you is the biggest reason most investors don’t succeed in stock markets?

Kenneth: I guess most serious investors do succeed in markets. The longer you stay invested, the better are the results. Investing needs to be passive and rather than focus on prices investors should concentrate on the underlying. This is a learning process. And being persistent is the key to long-term success. A lot of investors give up in the short term.


Dev: How important it is for investors to have reasonable expectations? Many investors start believing that markets will continue to perform well, just because they have done so in the past. How does one correct this perception?

Kenneth: In the beginning of 2013, 10-year index returns converged with liquid fund returns. There is no set rule that equity or any asset class will deliver an above average return in perpetuity. Sure if you play with statistics, we can prove otherwise.

In the long term, any manager or fund with a return over 5%-7% (post tax) over the risk free return is a job well done. If that is the benchmark, then it is fairly important to anchor investor expectation around this number. Of course at times this could be significantly higher if a couple of asset classes do extremely well.


Dev: Volatility is one of the most recognizable and hated aspects of equity markets. And because of volatility, most investors do the exact opposite of what needs to be done. They buy (on fear of missing out) when markets are high and sell (out of fear), when its low. This seems to be driven primarily by the perception of volatility and risk being same things.

But that is not correct as per my understanding. So how does one start believing and also, convince others about the fact that volatility is an aspect of risk and it is not 100% same as risk.

Kenneth: I guess the latter part of the question can only be experienced with time in the market. In one of my presentations lately I made a point that you need to use volatility to your advantage. Markets overshoot in both directions, and if you take advantage of this it could be extremely profitable. But one needs discipline to take advantage of these extremities.

Mutual Funds

Dev: The best time to invest was yesterday. Next best is today. Though its easier said than done for most people (who invest for long term goals), how does one go about convincing people to stick with to long term mindset when it comes to investing?

Kenneth: It’s the discipline that’s very important for that. And more than convincing, it’s the investor experience in the product category that matters. If any consumer has had a good experience of a product or a service, chances are he will stick to that regime. So it’s important that a habit is cultivated.

A lot of investors like to see markets trend up so that their money is multiplied everyday. Logically if I had a steady income – I rather want to invest in a market that is sideways to down for even maybe 5-7 years. (Read I Pray for Bear Markets) That keeps my average holding of my investments low. Then if markets doubles or trends upwards, which they normally do once in 5 years, it’s a very profitable trade.

If you do the math investing in a market, which is trending upwards is very inefficient. You have a very high weighted average cost of holding and a relatively lower return than the former.


Dev: It is said that apart from returns, one should also consider many other factors while selecting a mutual fund for investing. Which factors according to you should form the key criterias for fund selection?

Kenneth: Investing in any portfolio should be a long-term commitment. Likewise the long term is also associated with durability. So if one needs to buy a MF scheme for the long term, the portfolio also needs to be in sync. There are a lot of funds out there, which promise long-term returns with the top stock undergoing tumultuous changes. Portfolio churn is never good for the long-term investor. If this were so with the underlying fund, at most the best return would be index linked. One needs to watch for this.


Dev: Inspite of MFs being the best option for common investors*, people do get attracted by the glamor of investing directly in stocks. As per my understanding, this is human nature and people will continue to do so.

But when they do it, it also makes sense to invest only in companies, which dominate their industries with no-to-moderate debts and positive cash flows (atleast for non-professional investors, these criterias should be good starting filters).

How can an investor go about finding such companies? Another problem with finding such stocks are the perennially high valuations, which they are assigned. How does one go about investing in such companies?

* neither has the time nor expertise to analyse individual stocks.

Kenneth: MFs reduce volatility and at the same time offer participation in the growth of the capital markets. Their models are largely disciplined with managers allocating money across a number of companies. Individuals can replicate this off course by buying stocks directly. The error that most investors commit is the discipline of diversification. If this were managed well the outcomes would not be very different from diversified mutual funds.

The second part of your question resonates around investment styles. And no one style fits all. But by sticking to what you understand best will give you more upsides than downs. Don’t diversify your style.

As an investor I have always shied way from levered companies (excessive debt). And I consistently look for stocks and business that are out of favour. That way you know you are getting in at the ground floor.

An example of an ideal investment case would be a loss making company with a shrinking balance sheet in an industry that is under stress. So go one step backward on what creates capital efficiency – higher profits and capital employed (RoE = Net Profit/ Shareholder Capital). The former is the function of the environment; the latter is the function of the management. Look out for the latter, this should not be bloating. Chances are these stocks will come extremely cheap because of the cycle they are in.

As investors we all consistently focused on return. On the contrary we should be risk managers. A bull market gives you the return because all stocks participate; a manager has a very little role in that. It is the downside that counts.

You have to have a framework that works in a market offering you negative returns and measure your successes by buying companies that survive an economic slide.


Dev: In one of your interviews, you said that it is very important to go for companies, which are in a space that is scalable and significant. But as Graham said in Intelligent Investor, “obvious prospects for physical growth in a business, do not translate into obvious profits for investors.”

How does one think on those lines, so as to avoid the pitfalls of investing in the wrong company in the right space? Is it that the predictability of understanding the environment that a company operates in, and the ability of the company’s management to actually execute in that environment is the most critical aspect of decision making?

If yes, how does one be sure about the management here?

Kenneth: A company profit is limited by the size of its industry. Hence my fetish for scale sets in. Off course once this scale is established, the execution has to be profitable market share growth.

In my framework any company that loses market share raises a red flag, the cost of building back market share gains is ridiculously expensive. It is an easy parameter for most investors to track. (This framework may not strictly apply to commoditized business, but it works in most cases).

Getting back to the scale question, I love excesses. I always am on the look out for the next stock market bubble and the reasons that would cause it, but I would rather preempt them. Else like every one else I end up being the follower. If this is the context, I would necessary need to find scalability in the business and in the mid term markets extrapolate these numbers creating these excesses.


Dev: Most people say that India will continue to grow for years to come. As investors we need to be optimistic about future prospects. But as I read in one of your interviews, you said that it is very important not to go into an expanding economy with the wrong portfolio.

Most people are looking at the same set of sectors, which have done, well in recent past. But to outperform over the long term, one needs to know what can drive the next bull market. Though its tough for common investors to do it, what would you advise a person who is willing to put in place a mental-framework to think on those lines?

Kenneth: That’s an easy one. Demand creates profitability, which creates market caps which in-turn creates the need for fresh capacity. So in this framework, companies, which were growing 15%-20% per annum, set up capacities to grow between 30%-50% using near term historical numbers to justify the capital investment. This creates excessive capacities. Which is why the same sectors get very capital intensive and never return to historic levels of capital efficiency and then valuations.

If the above is true, we would need to let go of the past and look at industries where supply constraints or competitive intensity is low. Chances are they hold on to their profits and efficient capital allocation. One way of tracking this is leverage. Banks usually are arbitragers of high capital efficient business and low interest rates. They usually fund excessive creation of capacity based again of near term historical numbers, which they extrapolate into the future. So look for what these institutions fund, it may be the beginning of the next economic bubble; and excessive lending may end up being the end of one.


Dev: I know that you like buying companies, which are efficient with their use of capital. How can one analyse companies to find efficient use of capital. And more importantly, how does one create a list of such (prospective) companies in the first place?

Kenneth: Go one step behind. In one of the question above I alluded to two components of the capital efficiency ratio – the numerator and the denominator (ROE = PAT/ Shareholder Capital; ROCE = PBIT/ Capital Employed). The numerator is profitability, which largely is the function of the economy; I don’t believe I can predict a complex subject of growth.

The denominator however is the function of the management and efficient capital allocation. A lower denominator is all I look for and you don’t need a model to predict that. This is already in public domain. Just look for the latter. If you buy a portfolio of 20 companies that meet this criterion, the probability of going wrong is well zero!



Dev: Few books which you would ask everyone to read, to get their thoughts about investing and money ‘corrected’ and streamlined.

And what will you suggest for someone who is interested in doing deeper analysis of the actual businesses behind the stocks?

Kenneth: I have always identified with the Peter Lynch style of investing, which is what makes his two books my all time favourites. i.e. 1) One Up on Wall Street and 2) Beating the Street

And nothing beats company annual reports if you want to deep dive into an analysis of a company.


Dev: How do you avoid noise and information overload, which are so prevalent these days? How does an investor focus just on what is important?

I feel that noise is generally made up of opinions people have. And I may be wrong, but most people don’t know what they are talking about when discussing about future. How does one stop oneself from becoming influenced by such noises?

Kenneth: As an investor I am always looking at a right price to buy a good business at. So noise is welcome if it gets me to that objective. Else, file all the information you get in some remote corner of your grey cells. Chances are you will need this sometime in your investing journey.


Dev: That’s all from my side Kenneth Sir. I thank you for taking time out of your busy schedule to answer my questions. It was wonderful to have you share your insights.

Kenneth: Thanks Dev.

Mutual Funds Vs ETFs in India – Which one to choose Today, And Which one in Future?

Note – This is a guest post by Girish Sidana, a reader and an accomplished professional working for a well-known name in Indian automobile industry. You can connect with him professional here.
So over to Girish… 
Most people reading Stable Investor would be fully convinced (even I am) that investing in well diversified Mutual Funds for a reasonably long period fetches the best possible returns. But what if I tell you that this may not remain true in future?
Yes. It may sound surprising.
But before I go into the details and tell you the reason for the above statement, let me try and explain the concept of another product, which is bound to play a big role in future. I am talking about Exchange Traded Funds or ETFs.
What are ETFs?
An ETF is very similar to mutual funds (MF) in a way, that it is also a fund of various stocks. It helps investors diversify their investment portfolio. But unlike actively managed mutual funds which charge around 2% as fund management fees, ETFs comes at a very low cost of about 0.5%
So how are ETFs able to charge so less?
Its because ETFs are not actively managed by fund managers. Rather these mimic the composition and returns provided by various indices. So you can invest in Nifty ETF which will track Nifty and will give returns commensurate to Nifty.
ETFs are also traded live on the exchanges. This is quite unlike MFs, which have a declared NAV for each day. Although ETFs have their own set of problems like tracking error, commission on each purchase or sale, liquidity etc., lets keep that discussion for some other day.
Here is what National Stock Exchange had to say about ETFs:
“In essence, ETFs trade like stocks and therefore offer a degree of flexibility unavailable with traditional mutual funds. Specifically, investors can trade ETFs throughout the trading day as in stocks. In comparison, in a traditional mutual fund, investors can purchase units only at the fund’s NAV, which is published at the end of each trading day. In fact, investors cannot purchase ETFs at the closing NAV. This difference gives rise to an important advantage of ETFs over traditional funds: ETFs are immediately tradable and consequently, the risk of price differential between the time of investment and time of trade is substantially less in the case of ETFs.
ETFs are cheaper than traditional mutual funds and index funds in terms of fees. However, while investing in an ETF, an investor pays a commission to the broker. The tracking error of ETFs is generally lower than traditional index funds due to the “in-kind” creation / redemption facility and the low expense ratio. This “in-kind” creation / redemption facility ensures that long-term investors do not suffer at the cost of short-term investor activity.”
Note – To know more about ETFs and how they are structured, you can read comprehensive writeups available on NSE’s website (link).
Philosophy of Index Formation
It is also important to understand how an index is formed. Let us take the example of Nifty 50. It is made of top 50 companies of India. It is a dynamic index and keeps adding and dropping companies based on their market caps and various other factors. So, essentially, Nifty 50 is a good-enough barometer of the top Indian companies.
Thus an ETF taming Nifty 50 will give returns of these top 50 companies of India. Logically, this should be the best possible return one can think of. What better than top performing companies and that too tracking them almost on a real time basis?
But historical data shows otherwise. We all know (if not all then at least readers of this website) that lots of actively managed Mutual funds in our country have been giving better returns than Nifty (or Sensex for that matter).
And since actively managed funds are costlier than ETFs (or index funds), the higher expense will be justified as long as active funds, after accounting for expenses are able to beat the ETFs (and index funds) by a decent margin.
What Happens in Mature Markets like US?
The story in markets like US is very different from that of India. In those markets, most actively managed funds are not able to beat their benchmark indices. So purely from the returns perspective, ETFs make more sense there. 
An actively managed fund needs to return at least 2% more than the benchmark index to come at par with ETF. Now for all of you who have understood the power of compounding, appreciating a 2% increase per annum will be lot easier.
The reason which I have understood (by reading expert articles on this topic), and even though I don’t agree completely, is that Indian Mutual Fund managers are able to identify hidden stocks which may not be part of an index but are value stocks. Or, to put it differently, Indian stock markets still have nuggets of Gold hidden here and there – and that is because our markets have still not matured enough. And because of this, quite a few Indian mutual funds are able to give better returns than ETFs.
The Question / Deduction
Now the big question is that as the Indian economy grows and stock markets mature, the hidden value stocks may not remain as hidden as they are now. Also, there may be very few value stocks available over a period of time. This will make the task of Mutual Fund managers a lot more difficult.
Based on this logic, my understanding is that in times to come, the gap between returns from an ETF and return from a MF will reduce. And once this starts happening, it will be prudent to invest in ETFs rather than MFs. Or at least it will make sense to start allocating a decent part of your portfolio to a broader ETF like Nifty ETF.
Again, to take the example of developed market like USA, the debate of MF vs ETF is pretty hot. The data is very much in favour of ETF but there are equal proponents of both schemes. I remember reading one of the articles which compared this debate to vegetarian vs non vegetarian. Both advocate the merits of their school of thought.
Although history tells us that diversified MF are best investment vehicles, the future may be very different. So it might be wise to stay on the lookout for this development and remain cautious. 
MF may not be the cure-for-all as it is being told to all of us.
Personally, I have started allocating a part of my portfolio to ETFs (apart from the regular SIPs I do in MF). Whenever I see Nifty P/E going below 22, I invest some amount in Nifty ETF. I have started doing this very recently so have not got too many opportunities. My plan is to keep doing this regularly and may also reduce my SIP amount for a given month if I see Nifty P/E going below 20 and put this money in ETF. Or even skip my MF SIP in favour of ETF if it goes below 18.
What do you think? Do you think it makes sense to start looking at ETFs a little more seriously in near future?

Power of Increasing Your SIP by 5% or 10% Every Year

A few days ago, I did a post on How You Could Create a Corpus of Rs 8.4 Crores Starting with Just Rs 10,000 every month. In the post, I analyzed following 3 scenarios over a period of 30 years (with approximate results):
  1. A Fixed SIP of Rs 10,000 every month (= Rs 3.24 Crores)
  2. An Increasing SIP, Starting with Rs 10,000 every month & 10% Annual Increase (= Rs 8.40 Crores)
  3. A Fixed SIP of Rs 26,000 every month (= Rs 8.40 Crores)

In all the above scenarios, the assumption for annual returns was 12%. Now this number, according to me is quite conservative because of the following points:

  • In last (almost) 2 decades, Indian markets have given higher returns (in excess of 15%).
  • Well diversified, actively managed mutual funds have delivered returns of more than 18% for almost a decade.
  • If risk-free instruments like NSC, PPF give close to 9% return, then there is no point going for equities as an investment class if expectations are less than 10%
  • Indian Growth Story is still intact. And till the time India becomes a developed economy, it will continue to grow at a reasonable pace. My guess is that India is still 25-30 years away from becoming a mature and (real) developed economy – in terms of quality of life, industrial might and similar things.

The last point is my personal assumption (speculation). And there were few readers who had the view that 12% average returns in not sustainable for next 30 years. Some of the views were that as the economy grows and matures, inflation would stabilize and reach levels close to 2-3% as in the case of US and other developed economies…so figuring in dividend yield and the equity return risk premium, Indian markets might give 9% to 10% return 30 years down the line… AND….Premium above inflation is bound to reduce as inflation decreases as the economy matures.

Now I am not saying that my assumption of 12% is hundred percent correct. What I am saying is that I am slightly more optimistic about India in next 30 years. I know I will not get 20% returns from market. But I ‘think’ I will be able to make more than 9% average returns over the next 30 years. Because if I am not able to manage that, then I will rather buy risk-free options like PPF, NSC, etc.

MF SIP Investing Cartoon

But more importantly, what I think a lot of people are missing in last post is the fact, that the 3 scenarios discussed show the real power of long term, sensible investing.

Ask anyone who is close to his/her retirement and chances are that they may not have crores in their retirement funds. I have people asking me questions like ‘What should I do if I have Rs 10,000 every month to invest?’ 

The previous post is an answer to that. No matter where you are and what your current financial state…you can start now!

Believe me… Equities have the ability to make you rich. Really rich… All you need to do is to be disciplined and stick to simple investment ideas.

Note that in all the scenarios, we are assuming a 30 year tenure and equity return of 12%. These numbers can change depending on change in tenure and equity return…you can either keep an assumption of 10% for next 30 years OR 12% for first 20 years and 9% for remaining 10 years. But the overall conclusion remains same – Do your SIP diligently, however small it may be. And whether or not, you are able to increase it every year. You will be positively surprised at the money you have accumulated at the end of all those years.

Case Study: How To Accumulate Rs 8.4 Crores? Starting Only with Rs 10K every Month?

Some time back, I made my 7 resolutions for 2015. One of the resolutions which I made was to increase my mutual fund SIP contribution this year by atleast 10%. This initially may seem like a simple thing to do, but believe me…it can have a really big impact on how much wealth you can accumulate eventually.

And this is what I will try to convince you about here…

Let us suppose that I stay in a job for next few decades. I turned 30 few days back. So for all practical purposes, I have another 30 years before I retire.

Let’s also assume that as of now, I do not have any savings or investments.

Now let’s take up 3 different scenarios:

Scenario 1

I start a SIP of Rs 10,000 every month for next 30 years. I am making a conservative assumption that a well diversified mutual fund scheme will be able to deliver 12% every year. There are schemes in India which have done almost double of that for almost a decade. But lets not be over-optimistic, and stick to 12% for this and other scenarios.

So after 30 years of Rs 10K monthly investment, the corpus will finally reach a cool Rs 3.24 Crores!! Details of the calculations can be found in image below. Please click to enlarge it:

Scenario 1: SIP of Rs 10K for 30 years

Scenario 2

I start with a SIP of Rs 10,000 every month. But for next 30 years, I increase my SIP contribution by 10% every year. i.e. I invest Rs 10,000 per month in first year…followed by Rs 11,000 every month in second year….Rs 12,100 in third year..and so on. Here again, the return assumptions are kept at a conservative 12%.

So after 30 years of increasing SIPs (which started at 10K a month, with 10% annual increase), the corpus will finally reach a (way cooler) Rs 8.40 Crores!! Details of the calculations in image below:
Scenario 2: SIP starting with Rs 10K, which increases 10% every year for next 30 years
So you see the difference. A simple 10% increase in your monthly SIP, more than doubles your final corpus. Not bad.

But wait…..

You must be wondering that instead of just increasing this SIP every year, what would happen if you started with higher amounts and kept it constant?

The answer to your question is provided in the third scenario.

Scenario 3

To achieve a corpus which is almost equal to one achieved in second scenario, i.e. Rs 8.40 Crores…you need to start with, and continue paying Rs 26,000 every month. Once again the detailed calculations are given in image below:

Scenario 3: Constant SIP of Rs 26K for next 30 years
As you see in second and third scenarios, you can achieve the same target amount (Rs 8.4 Cr) by choosing two different approaches. So question now is…

Which one to choose?

At first glance, it might seem that increasing SIP is better than Constant SIP as it is more convenient. It also seems to be in line with a simple common-sense based thought that:

Income Rises – Expenses Rise Too – So Should Investments

Why should SIP be kept constant when your income is rising? Your investment (through SIP) should also increase. Think for yourself… If you started a 10K SIP when you were earning 50K some years back, and you are proudly flaunting this 10K SIP even today…when currently you earn more than Rs 1.5 lac a month, then it is something stupid. You wont become rich!

An important point to consider here is that even though both scenarios result in Rs 8.4 Crores at the end of 30 years, the total investments made by you in both cases will differ substantially.

In scenario 3, the SIP is constant at Rs 26,000 for all 30 years. Whereas in increasing SIP model, you start with Rs 10,000 and it continues to increase every year. In 12th year, the SIP amount in increasing SIP scenario crosses Rs 26,000 (equal to constant SIP value).
In year 18, monthly SIP will exceed Rs 50,000. In year 26, it will exceed Rs 1 lac a month.
When you compare these numbers with constant SIP number of Rs 26,000, these might seem like very big numbers. But decades from now, these would be very small numbers considering the increase in annual income and inflation, etc.

But as I said, total investment in both cases will differ substantially. In constant SIP scenario, you will be making a total investment of Rs 93.6 Lacs in 30 years. But in increasing SIP scenario, your total investment would be Rs 1.97 Crores (almost twice!).
So does it mean that its better to start with a bigger amount in constant SIP instead of increasing one?? As in both cases…the end result is same – Rs 8.4 crores.

But before you decide, read further…

When we start investing, its not easy to allocate very big amounts towards Mutual Fund SIPs. Suppose you start earning Rs 40,000 as your first salary. You under normal circumstances, will not be able to shell out Rs 26,000 every month. But can easily manage Rs 10,000. And with rising income, you can keep increasing your SIP amounts (Scenario 2). 

Honestly speaking, there is nothing like starting a large SIP very early in your life.

What do you think? What strategies do you use to boost your SIPs?

Case Study – Combining HDFC Top 200 & Recurring Deposit – Part 4

This is the fourth and final part of the SIP Case Study which made use of HDFC Top 200 as the chosen fund. In previous post, I had evaluated the impact of considering the interest accrued on Market Crash Fund. You can read that analysis here.

In this post, I am evaluating the impact of changing the trigger point to one which is dependent on P/E Ratio of the index rather than NAV of the mutual fund (HDFC Top 200 in this case).

So after much deliberations and reader feedbacks, I came up with the following scenario to evaluate:

Scenario 1:

Investment of Rs 10,000 will be split between MF SIP & Recurring Deposits on basis of following conditions:
  • If index PE between 17 and 22, SIP=Rs 5000 and RD=Rs 5000
  • If index PE>22, SIP=Rs 0 (i.e. SIP stops) and RD=Rs 10,000
  • If index 15<PE<17, SIP=Rs10,000 (i.e. SIP doubles) and RD=Rs 0
  • If index PE<15, SIP=Rs 10,000 and RD=Rs 0; and Market Crash Fund (MCF) is utilized as follows – As soon as PE goes below 15, accumulated MCF is split into 3 parts. First part is deployed immediately and remaining two over the next two months.

Simple speaking, MCF Trigger point will be at 15PE. At this point, money accumulated will be split into 3 parts and deployed over next 3 month. SIP investments will stop if PE>22. SIP investments will double if PE<17.

The graph below shows the amount invested in SIP and amount added to MCF for all months starting 1996. I have also added the index PE for the day to show the correlation between the PE and amounts going into SIP and MF (as explained in scenario above).

Correlation between Index PE & SIP+RD Amount (monthly basis)

As usual, the above ‘complex’ scenario was compared with a simpler one below:

Scenario 2

Investing Rs 10,000 every month, without any regard for markets movements, PE levels or for that matter, anything.

Note – Since the chosen fund – HDFC Top 200 started in 1996, I required index PE data starting from 1996. But problem I faced was that index PE data is available starting only from 1999. Hence, from 1996-1999, I chose SIP+RD (Rs 5000 each) irrespective of index or PE levels.

Final Results of Analysis
In first scenario, the total money outgo (put in SIP, used from Market Crash Fund and money still lying in MCF) is Rs 23.1 Lacs. Of this, Rs 12.8 lac is invested as SIP, whereas around Rs 5.5 Lacs was invested in parts, at regular intervals, as and when a trigger points were reached. The money currently available in MCF is around Rs 4.8 lacs, where interest has been considered @ 8% per annum and has been calculated and added to MCF after completion of 12 months. Wherever trigger point is reached in less than 12 months, interest has been ignored for that 12 month period.

There is no change in second scenario and the entire Rs 21.8 lac is invested as SIP of Rs 10,000 every month.

I have chosen the SIP investment (& PE) dates as the first trading day of the month (whether 1st, 2nd, 3rdor 4th…)

So results are as follows:

This time, the pure MF SIP (Scenario 2) delivers Rs 2.46 crores. And a combination of SIP+RD (Scenario 2) delivered Rs 2.47 Crores. If we were to include the money currently available in MCF, it would be Rs 2.52 Crores.

SIP Vs RD Monthly
Scenario 1 & 2 Comparison

So…let see what it means…

It might seem that SIP+MF combination has beaten the pure SIP this time. But in reality, it’s not true. Why?

I have not considered the penal charges & tax implications of liquidating the MCF (via RDs). Though it might not be significant, it still brings down the returns over a period of almost two decades. Another thing to note here is that I have considered interest on RD as 8% calculated yearly. This itself can fluctuate depending on prevalent interest rate scenarios during the last 20 years.

But most importantly, this outperformance of Rs 1 lac (or Rs 6 lac if you consider the accumulated MCF), requires you to monitor PE ratio all through these 20 years and be ready to calculate how much to invest (if PE breaches 15 on lower side or 22 on upper side) every month. Also the charges of starting / stopping RD, and for that matter SIP is also something which needs to be taken into account.

By the way, if you are interested in having a look at the exact numbers, click on the image below:

MF SIP and RD Analysis Since 1996
Full Analysis

Final Comments

So this analysis has once again proved (like previous parts 1, 2and 3) that, for average investors, it is more than enough to continue investing as much as possible every month in a good diversified mutual fund. They should not pay much attention to ups and downs of markets and whether markets are overvalued or undervalued. No need to put your money regularly in a Market Crash Fund (MCF) solely for purpose of investing in MF when markets are down.

PE Ratio of Index & Amount Accumulated in Market Crash Fund

But if you are lucky to have some surplus funds when markets are trading at low valuations (around PE15), then make it a point to invest. Don’t be afraid. People around you would try to convince you not to invest. They will try to tell you that markets will go down further. Please don’t listen to them. Even if it goes down (even upto PE12), remember that it will soon revert back to mean (17-18) and then you will be happy that you invested during the downtimes.

What Will I Do?

Personally, I do maintain a Market Crash Fund (MCF) which is funded by interests, dividends and any surplus income which I generate. And I use this fund for buying direct stocks (as and when I feel that stocks I like, are trading at low valuations). I generally don’t use this MCF for MF investments.

So what will I do going forward? 

The above analysis clearly shows that there is not much point in taking such an approach. And that is because the additional returns generated by this approach do not justify the efforts put in last two decades. But when not buying individual stocks, I might still use my personal MCF to buy MFs in lumpsum. But I will do it only when I am not absolutely sure of which stocks to buy… but I am pretty sure that markets are grossly undervalued and should be invested in.

Case Study – Combining HDFC Top 200 & Recurring Deposit – Part 3

This is the third part of the SIP related Case Study where I compared the performance of following 2 scenarios:

Scenario 1: Investing regularly (Rs 5000) & periodically making lumpsum investments when markets are down. This lumpsum amount would be an accumulation of an additional amount of Rs 5000 every month (+ annual interest@8%), which will be used at one-go when markets are down (at a pre-decided trigger point).

Scenario 2: Investing regularly, double the regular amount (Rs 10,000) over a period of 20 years in a decent, well diversified mutual fund.

The part 2 of the case study was more about reader’s reactions… where many of my assumptions were questioned. And I was glad that readers were very vocal about it as it pushed me to do further analysis. If you haven’t read the feedbacks, I recommend you do it right away here.

In this part (3) of the study, I test a few other scenarios.

Please note that I initially started this study to prove that there ‘should be’ a structured solution, which could make use of following two facts – (1) It doesn’t make sense to stay out of markets at any time – Why? (2) It seems more logical to invest ‘more’ when markets are down.

But as I progressed with my analysis, it started becoming clear that it might be better to stick with simple SIP of mutual funds rather than thinking too much about investing more using a market crash fund. I am using the word ‘might’ as its still possible that people might be using a similar approach and making profitable investments when markets go down. 

But for average investors, it might be a sensible to stick with SIPs.

But nevertheless, I will complete what I started….

Re-Analyzing To Include Interest Component of RD (Market Crash Fund – MCF)

In first scenario, the total money outgo is Rs 21.9 Lacs. Of this, Rs 10.95 lac is invested as SIP of Rs 5000 every month whereas rest is invested in lumpsum at regular intervals as and when a trigger point is reached. The interest on RD has been considered @ 8% per annum and has been calculated and added to MCF after completion of 12 months. Wherever trigger point is reached in less than 12 months, interest has been ignored for that 12 month period.

There is no change in second scenario and the entire Rs 21.9 lac is invested as SIP of Rs 10,000 every month.

After inclusion of interest component, there was expectation that second scenario would be trumped by first one. But still the second scenario seems to have an edge. And this time, the MF+RD combination delivers Rs 2.23 crores whereas a simple MF delivers Rs 2.43 Crores. (without interests, the SIP+RD number was Rs 2.14 Cr)

Trying Out 75%-25% Split for SIP+RD Scenario

A reader had suggested that I should also try out a scenario where SIP+RD combination is more skewed towards SIP. So I tested a scenario with 75%-25% SIP+RD combination. But here also, there were no earth-shattering differences in results. A SIP+RD of 75%-25% resulted in a corpus of Rs 2.33 Cr, which falls short of Rs 2.43 Cr of simple 100% SIP.


I think a lot of effort has already gone in analyzing these scenarios 🙂 But I will like to try out one more scenario. And that is of changing the trigger point to one which is dependent on P/E Ratio of broader markets rather than fund NAV. I will be analyzing this scenario in 4th and last part of this case study. My tentative scenario for evaluation is as follows:

MCF Trigger points will be at 15PE. At this point, money accumulated will be split into 6 parts and deployed over next 6 months (if PE remains less than 18). For pausing investments in regular SIP when 22PE is achieved, the money which was supposed to flow into SIP will be added to MCF. Once markets go down below 22PE, regular SIP will commence. But trigger point for MCF deployment will remain at 15PE.

Let me know if this scenario sounds fine to you all….or if something more needs to be added here.

PS – I know I am complicating things. But lets just finish what we started. 🙂

Case Study – Combining HDFC Top 200 & Recurring Deposit – Part 2 (Reader’s Reactions)

The Case Study post where I tested the following scenario (hypothesis) generated quite a lot of discussion.

Investing regularly (Rs X) & periodically making lumpsum investments* when markets are down, will fetch higher returns than regularly investing double the regular amount (Rs 2X) over a period of 10-15 years in a decent, well diversified mutual fund.

* This lumpsum amount would be an accumulation of Rs X every month, which will be used at one-go when markets are down (at a pre-decided trigger point).

After going through all comments, I thought it would be beneficial, to do a follow up post highlighting the major points brought forward by the readers.

At the end of the post, I had posed a few questions as I myself was not sure how to interpret the results achieved.

– How is it that a simple MF of Rs 10,000 a month beats a combination of Rs 5000 a month MF and lump sum investments when markets are down?

– Is it something about the assumptions that went wrong?

– Is it that trigger point should have been either more than 20% or less than that?                  

– Is it wrong to split the investment amount into 50%-50% for SIP & RD in first scenario?

– Is it because of the extraordinary bull runs of 2003-2008 that this analysis went for a toss?

– Is it that HDFC Top 200 has been a stellar fund and any other fund would have given results in line with hypothesis?

– Is it entirely wrong to do this comparison at all?

Readers of the post had a lot of views about all the questions above. This post shares those thoughts and ideas….

So over to readers…for reactions and brickbats 🙂
On Ignoring the Interest component of RD (Market Crash Fund)

Shan: You can’t ignore interest.

Saurabh: Definitely interest should be factored in the calculation. And that is because we are considering very long periods of RD 1996-2000, 2002-2008, 2009-2011 and 2012-14. Even at a conservative 9% (it use to be higher in the late 90s), that would mean that the money would have compounded by 1.4 times for every 4 year period.

Jay: I know a lot of readers have mentioned RD interest component but that’s beside the point that you are trying to make and my guess is even if included won’t amount to a whole lot which was the expectation to begin with.

Dhanesh: You haven’t added any interest for reserve money for simplicity. I think it is highly distorting the conclusion.

In next part of this case study, I will be redoing the calculations where interest in recurring deposits will be included.

On Choosing 50-50 Split

Jay: The split too sounds good to begin with. I guess you could try a 75-25 (SIP-RD) as well.

Ajay: I think a simple SIP in HDFC Prudence for full amount would have provided a Rs 2.17 Crore return. A RD cannot be broken without penalty at given time (that is when the trigger point is reached). Also the interest is taxed. A 25% Debt folio takes care of the equity to debt and vice versa shifts without any tax implications and hassles to investor.

In next part of this case study, I will try out the 75-25 combination. As far as Ajay’s idea is concerned, I think it’s a practical way of achieving what I wanted to using a combination of MF+SIP.

On Choice of Fund

Anand: To start with, having a MF (and that too one tracking top 200 stocks) may introduce too many variables (basically active management comes into picture). Instead, you might want to do same analysis with a pure index fund.

I could have tried using an index fund for further analysis. But I think it would have still resulted in similar results…with only difference being the degree of over- or under- performance.

On Choice of Trigger Point

Anand:  Instead of NAV, you might want to use the PE ratio. 

Dhanesh: One major problem with your model is your trigger point. You are using historical high value as trigger point which I believe is wrong anchor. Historical high is like 52W High / Low price of stock, buying a stock comparing 52W High and current price will give mediocre return. I think appropriate trigger point should be NSE200 or BSE200 PE. Your old post on PE ratio should be a good guide to choose appropriate PEs. I like PE -15 as a good trigger point. Once trigger point is reached, I think money should be systematically transferred to Equity over 6 month’s period. I also think there should additional trigger at PE 22, which should warn investors to systematically withdraw money.

Ajay: One of the options is to see the entry points via PE of index, but here always low PE is always accompanied by bad news so no one goes and invest more at that point. If the investor is ready to base it only on PE, a investor should stop investing in equity at 20PE and should start investing in debt funds and wait for investment opportunity below say 13PE lumpsum investment. But getting it below PE of 13 or so is not that frequent in our market. If you look at records, it is only few time it touched that level and at that point you are flooded with negative news, so do one dare to invest.

This was an interesting thought of choosing a trigger point based on market valuations. I would personally have done this too but as explained in comments of previous post too, I decided to stick with data points which were all linked to the chosen fund. But nevertheless, I tried analyzing the results using following scenario:

Trigger points will be at 15PE. At this juncture, money accumulated will be split into 6 parts and deployed over next 6 months (if PE remains less than 18). As far as pausing investment post 22PE is concerned, I will see if I can include that in my analysis due to lack of time at my end. 🙂 (I hope you all will understand)

General Reactions /Suggestions by Readers

Saurabh: Based on their age, people should keep a part of their money in cash and multiply it using FD/RD. Another part should constantly be used for doing MF SIP. And another part should be used to pick stocks if the person knows what he is doing. For a 30 year old, I’d do a 10-40-50 split. I don’t have the data but I feel that money kept in MFs as SIP for 20-30 year period should do very well because some of the best money managers know where to park the money during bad days so that they outshine during the good days.

Abinash: It is always a good idea to continue running SIP and separately make a 2 year fund, And when markets crash, put one year fund as lumpsum… I know if you consider the RD interest component in your analysis too, it will definitely beat the return.. But truly how many of us can do this? 

Govar: While I agree that SIP would be the best approach for a period of 20 years, the problem is you don’t know if you can really leave the money alone for 20 years. There are several milestones that could disrupt the process. So I don’t do a SIP in an over-valued market (PE of 21+). My plan is to systematically accumulate cash (via arbitrage funds since LT returns are tax-free) and balanced funds when market is hot (PE 21+), invest in Equity MFs below PE 21 and pump in cash when valuations are really down (18 and below).

Jay: Instead of having a single trigger to dump all RD monies, we can have sequential triggers for step wise deployment. But it may make things complicated, so why not stick with pure SIP.

Abhijit: As far as I can think, the reason behind surprising results in previous analysis, is the fact that half of the invested amount earns less than what stock market earned during period. Ex – Even if you start investing when NIFTY was around 1000 in June 2003, it runs up to market peek in 2007 and crashes to around 2700 in December 2008, the CAGR is 19% (even after crash). If you would have put 50% of invested amount in cash/FD earning lesser returns, you are losing on the total returns even though that amount gets invested at 2700. The most probable reason of your results being surprising seems to be the great bull run from 2003 to 2007. Had the market traded sideways or moderately bullish then your results could have been as expected. i.e., Equity + Crash fund returns greater than pure equity.

I think everyone made quite a good number of suggestions and I think Abhijit’s reasoning of surprising performance makes a lot of sense.


[Edited on 13-Jan-2015 After Publishing]

Ajay: This is in reference to point made (underlined above) about comparing lump sum returns of investments made with Nifty (@1000) in 2003 and upto 2008 with Nifty (@2700)

Argument of 1000 to 2700 here is for a lumpsum investment. Who has got all the money and guts to invest for goals on a given day towards the goals? You can invest as a lumpsum without bothering too much about valuations only if you are investing for 10 or 15 or 20 years period. And then there would be no need to do any SIP.

The discussion here is about SIP. If one had invested in HDFC TOP 200 from 1st June 2003 to 1st Dec 2008 and see the return on 2008 Dec (say equal value of 5000 throughout this period) then the returns are as follows:

SIP Mode
No. of Installments – 66, Total Investment 3,30,000 and Fund Value on 01-Dec-2008 is 4,54,041, IRR 11.5%

Lumpsum Mode
3,30,000 invested on 1st June 2003, the fund value on 01-Dec-2008 is 13,39,429 (nearly 4 times the return due to bull market followed by a crash)

If the SIP end date is changed as 1st March 2009 and value as of 11th March 2009 are as shown below:

SIP ModeNo. of Instalments – 70, Total Investment 3,50,000 and Fund Value on 11/03/09 is 4,39,368, IRR 7.85%

Lumpsum Mode
3,50,000 invested on 1st June 2003, the fund value on 11/03/09 is 13,17,941 (still nearly 4 times the return due to bull market)

Moreover, the index moved from 1006 to 2669 by Dec 08 and 2620 by March 2009. Also, instead of looking 1000 and 2700, the PE ratio at 1006 was 11.59 and PE ratio at 2669 was also 11.76.

Any lump sum investment made at this very low PE entry point will give substantial return over the next 5 to 7 year period. However those entry points are rare occurrence. So, it is unfair to use it for justifying the lumpsum investment mode. If you do the same with the entry point on 1 Jan 2008 period (at peak valuation, even the lump sum return after 5 years will look meagre).

If one had invested in HDFC TOP 200 from 1st Jan 2008 to 1st Jul 2013 and see the return on July 2013 (say equal value of 5000 throughout this period) then the returns are as follows:

SIP Mode
No. of Installments – 66, Total Investment 3,30,000 and Fund Value on 1/07/13 is 4,30,696, IRR 9.6%

Lumpsum Mode
3,30,000 invested on 1st Jan 2008, the fund value on 1/07/13 is 4,14,914 (it is a meagre return).

Index on 1st Jan 08 was at 6144 and PE ratio was 27.64 and on 1st July 2013 it was at 5898 and PE was 17.87.

This proves the point that unlike SIP, for lump sum investing market valuation and index value is very important.


In next part, I will share the analysis of various other scenarios.

Case Study – Surprising Results of combining HDFC Top 200 & Recurring Deposit (Market Crash Fund)

We always think that it is best to invest when markets are down. But how often are we able to do it? Not regularly.


There are 2 reasons.

First – The markets don’t go down regularly.

Second – When they do go down, we don’t have the guts to go out there and invest. And that is because, either we don’t have the money to invest AND / OR we don’t know where to invest.

And frankly speaking, both are genuine problems. It happens to me, you or almost anyone I know.

I was just thinking about this whole scenario of investors feeling handicapped when markets go down. They want to invest. But don’t know where to invest. And if they do know where to invest, then they don’t have funds to do it.

So is there a solution to this problem?

I think there is. Atleast I thought there was. 🙂

I am not sure though.

And if there is a solution, then it is ought to be based on the following two thoughts:

First is that it does not make sense to stay out of markets at any time. I covered this topic a while back at – Why You Should Invest, Even if You can’t Beat the Market.

And Second is an extension of the above thought – it seems wiser to invest ‘more’ when markets are down.

So how do we use these these two (thoughts) in combination to gain the maximum benefit?

I came up with a very primitive hypothesis:

Investing regularly (Rs X) & periodically making lumpsum investments* when markets are down, will fetch higher returns than regularly investing double the regular amount (Rs 2X) over a period of 10-15 years in a decent, well diversified mutual fund.

* This lumpsum amount would be an accumulation of Rs X every month, which will be used at one-go when markets are down (at a pre-decided trigger point).

To test this hypothesis, I chose HDFC Top 200 as the fund. The choice of fund was because it is a stable, well known and proven fund. And my guess is that If you had to choose a fund blindfolded, chances are you would choose HDFC Top 200. Ask anyone and almost always, this fund’s name pops up.

So coming back to the analysis, I went ahead and used last 20 years data to prove my hypothesis.

There are 2 scenarios being compared here:

First is where Rs 5000 is invested every month in HDFC Top 200. An equal of Rs 5000 is also parked every month in a Recurring Deposit which I call Market Crash Fund. (I am ignoring the interests accrued for simplicity). The money keeps accumulating in this market crash fund till the time a trigger* point is reached.

Second scenario is where Rs 10,000 is invested in HDFC Top 200 every month. Plain and simple.

*The trigger point for utilizing the market crash fund is when the average monthly NAV of the fund is at more than 20% discount to highest average NAV, which has been achieved in last 3 years. For example, if the fund reached a maximum NAV of Rs 100 in last 3 years, and the current NAV touches 79 (i.e. 21% discount) – then entire money accumulated in Market Crash Fund is used to buy units of Mutual Fund at lower NAVs.

So with these assumptions, lets see what happened.

Starting October 1996, the total money outgo in both scenarios is Rs 21.9 Lacs. In first scenario, Rs 10.95 lac is invested as SIP of Rs 5000 every month whereas rest is invested in lumpsum at regular intervals as and when a trigger point is reached. In second scenario, entire Rs 21.9 lac is invested as SIP of Rs 10,000 every month.

But here comes the surprising part. The returns of above strategies are not in sync with my expectations. My expectation was that the MF+RD combination which shifts money from RD into MF when markets go down, will beat a simple MF SIP of amount equal to MF+RD monthly investment.

But results are completely opposite.

The MF+RD combination delivers Rs 2.14 crores whereas a simple MF delivers Rs 2.43 Crores.
HDFC Top 200 Analysi
Value of Investments in HDFC Top 200 in both scenarios
In the graph below, the dark blue line indicates the value of Market Crash Fund which accumulates Rs 5000 every month till the trigger point (Current NAV < 80% of Max NAV in last 3 years) is reached. The light blue area graph shows how low is current NAV (in %) with respect to maximum NAV in last 3 years.

HDFC Top 200 Lump Sum Investments
Lump Sum Investment Trigger Points (On Basis of current & last 3 years NAV)

Big figures indeed for small Rs 22 Lac investment. Isn’t it?

But what about the hypothesis?

How is it that a simple MF SIP of Rs 10,000 a month beats a combination of Rs 5000 a month MF and lump sum investments when markets are down?

Is it something about the assumptions, that went wrong?

Is it that trigger point should have been either more than 20% or less than that?                    

Is it wrong to split the investment amount into 50%-50% for SIP & RD in first scenario?

Is it because of the extraordinary bull runs of 2003-2008 that this analysis went for a toss?

Is it that HDFC Top 200 has been a stellar fund and any other fund would have given results in line with hypothesis?


Is it entirely wrong to do this comparison at all?        

I am not sure if I know answers to these questions.

What do you think? Do let me know of your thoughts about the idea of splitting money (MF & RD) as done in first scenario and also about my assumptions regarding trigger points.