A guide to picking smallcaps from a top performing fund manager

The small cap space has been fairly resilient in the face of the ongoing health crisis and lockdowns. What’s your reading of the situation?

Q4 earnings have been strong so far for companies across the board. Rise in earnings have confirmed a strong resurgence in economic activity in the last quarter. Cyclical stories across banks, materials and auto have been strong. Sectors like IT and the healthcare space have also witnessed growth on expected lines. Management commentary has been key to the recent price action.

Companies which have shown earnings recovery have done well across the market.This includes the smallcap grouping which has shown similar traits. The recent broadening of the market move has also seen the mid and smallcap space outperforming their larger peers. With a return of state wise lockdowns, we expect the June quarter earnings to be lacklustre. However, the longer term growth trajectory continues to remain on track.

Compared to the last cycle, the difference today is the financial stability in many small caps which is resulting in resilience. Promoters and management have been focused on bringing down costs relentlessly in a thrust towards business efficiency. Our portfolios have always favored companies with strong financial attributes and management focus on efficiency.

Smallcaps are obviously coming out of a harsh bear market that ended only in late 2020. The small cap index is yet to scale its previous record highs. Is this segment of the market the place to be in your opinion and what are your expectations from a 3-5-year perspective?
The smallcap space had a significant time correction over the last 18-24 months. The excesses have now largely been normalized and there is a clear demarcation between quality companies and the rest.

Another characteristic feature of this space is the flurry of high quality companies that have recently listed. For active stock pickers like us, the market is ripe with opportunity. The caveat here is that volatility has become the new normal and thus investors with a short term investment horizon may suffer at the hands of such volatility. We recommend this space only for patient investors looking at a minimum 5-year investment horizon.

According to some calculation you are one of the best performing smallcap fund managers in the land with certain riders in the past three years. These were some of the most brutal years for small cap investing and yet you outperformed. How did you sustain such outperformance?

The vast universe in the smallcaps space has always been a stock picker’s paradise. However, only well researched investors have been successful in creating long term wealth in this space. As a fund house, which prides itself on its research capability and fundamentals driven mindset in building portfolios, our investment process has succeeded in this endeavor and will aspire to continue building long term wealth. Today, we continue to identify opportunities with the same mindset guided by our investment philosophy. Our aim is to deliver our investors with consistency in performance over the medium to long term

One sector that you have extremely bullish on is the chemical space. We have had an eye-popping rally in some of the chemical sector stocks. Does it make sense to enter that space anew or is it time to take some of the profits off the table?
The chemical sector in India has very strong long term growth drivers as companies have built on their early successes by developing new competences and gaining market share globally. We continue to remain constructive in this sector albeit in a more stock specific way rather than play the whole sector.

How are you looking at your financial services allocation. Is there some concern there with respect to asset quality given that commentary coming through from smaller lenders has been less-than-ideal so far?

Of course COVID has impacted financials across the board and small lenders have been impacted more due to the nature of their exposure. However, we believe this problem is transient in nature and well run companies with good balance sheets will be able to come over this in near future.

We have had millions of first-time investors who have joined the market and for their benefit, what is the one thing that pleases you most about small cap investing and one thing that does not?

Anupam Tiwari: We follow a simple principle of buying good and scalable businesses run by good and competent people with strong balance sheets. We look for sustainability of earnings and do not favor short term momentum.