Omkar's Portfolio Analysis and Discussion

Q&A: Questions & Answers Portfolio Q&A
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My thoughts on investing in the Insurance industry

Before jumping on topic, some thoughts on Circle of Competence

I slightly disagree with Mr. Buffet on ‘Circle of Competence’ at least for my temperament. To give example - I have been working as a Business Analyst / Business Consultant with an IT firm for 7 years now and all these 7 years my experience is in the Insurance domain. (My LinkedIn profile). I have worked with various global / Indian insurers both in life and general insurance. I have worked across functions of sales & distribution, business development, claims, strategy, etc. My knowledge about the insurance industry is easily 100x better than the auto ancillary and pharmaceutical industry. Ironically, I am not capable of making investment decisions in the insurance industry but I am taking bets on the other two.

My current belief is that investing is counterintuitive in this aspect. The usual belief of - more we read or gain knowledge the stronger is the circle of competence does not apply to me. I would like to believe Mr. Market more than my circle of competence to take decisions. In some cases, Mr. Market has made life easier for me to take decisions. For example - investing in HDFC bank/ Kotak Bank is one such gift from Mr. Market. These are high-growth companies with a huge runway for growth where Mr. Market has leaked the entire information one wants to decide without any circle of competence.

This thought process is one of the building blocks of my WIP investment approach

What has Mr. Market told me about the insurance industry?

There was a great thread on the Insurance industry by JST Investments today on Twitter

Tweet number 24 is the reason why I have not invested in the Insurance business so far. Quoting same below

“However, underwriting remains a function of management. If one can see them go through a few storms unscathed, then one can bet. Indian private insurance companies are no more than 20 years old, relatively young compared to western peers, so be cautious”

In our journey as an Investor, I believe Mr. Market sometimes screams at you to tell you to invest so that retail investors can make decisions even without the circle of competence. For the insurance industry, I have not received such a signal so far or maybe I am failing to grasp it

Simple hack to invest in the Insurance industry

With all these limitations in decision making, I am still convinced of the growth prospects and that is why I would like to participate in the growth phase of the insurance industry. The simple hack I am using to cover myself is investing in Kotak Bank and in the future Bajaj Finserv, which has an insurance business along with the lending business.

Watchlist – HDFC life and ICICI Lombard

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Another auto ancillary company I like is Endurance Technologies. They have been very consistent in their execution post listing in 2016. They are superior to Suprajit in few aspects. Here is the comparison

Parameter Suprajit Endurance Comments
Past capital allocation mistakes None Once before listing They did poorly during GFC because of capital allocation decisions. Minor incident last year where they announced capex in tyres and later retreated because stock price was hammered after the announcement
Past M&A track record Incredible Good Suprajit has incredible M&A track record. Endurance also has good M&A track record but I personally think they have more to prove
Number two non- promoter person CEO - Leader Director – Group CFO Endurance No 2 executive looks more operational
Product portfolio Inferior technology Superior technology The propriety product portfolio of Endurance is pretty good – Suspension, brakes, ABS
Margin profile Good Good Both the business have similar margin profile of around 16%
Management hungry for growth Yes Yes
Ability to venture in new products Yet to be proven Superior
Susceptibility of cyclical nature of industry Less Moderate Suprajit’s 50% revenue is in aftermarket and non-auto business. Endurance started focusing on aftermarket very recently
Client concentration Low High Around 35-40% business of Endurance still comes from Bajaj. Suprajit does not have any customer with more than 10% share
Export opportunities Terrific Low Suprajit has export business in each area – OE, aftermarket, non-auto, lamps, cables. Endurance is exporting only for aftermarket and slowly started export for full machine castings
Management guidance Conservative Usually conservative. Slight tinge of bullishness
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In a young country like ours, we cannot have 50-100 year old insurance firms yet, but what we do have is excellent financial institutions that have proved their mettle over multiple cycles such as HDFC and they have built insurance firms as well from scratch. Now we have two options, either invest in the top financial institutions’ baby insurance firms or wait for them to become giants and then invest. The HDFC baby is already around 1 lac crore mcap and crazy valuations would not be the only reason for that. 1 lac crore mcap is still approx 1/15th of the largest listed private company in India (RIL) and the potential largest company in India is an Insurance firm (LIC)…so the runway of the successful private insurer in Life Insurance can be guessed…and which group other than HDFC cab be more successful in building a classic insurance firm is again anyone’s guess…
Disc: Invested in HDFC Life & SBI Life in ratio of 3:1 and hence biased. Not a buy/sell recommendation. I can be wrong in my assessment of Insurance stocks.

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Agree with you. It just means taking some leeway from my thought process of focusing on past down cycles.
Valuation is a concern, but I usually allocate in staggered way over a long time frame. Hopefully that will mitigate some of the valuations risk whenever I start investing in insurance companies in future

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Some more thoughts on circle of competance

Past track record available? Is the past track record good? Management Commentary tone Can “I” take decision on future prospect with low circle of competence? Example (Based on my judgment)
Yes Yes Bullish No Vinati Organics
Yes Yes Conservative Yes Ajanta Pharma
Yes No Bullish No Granules India
Yes No Conservative No Do not know any
No – Bullish No Many
No – Conservative May be Avenue supermart
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Insurers like HDFC & SBI Life seen global financial crisis when they had history of approx 10 years and now one of the worst pandemic in last 100 years when they are approx 20 years old. 10-20 years are big enough time for mess to be created which would become evident to some extent during such crisis period. One thing i think yet to be seen is how indian insurers fare during almost 0% interest rate regime like in West…but we still have a long way to reach that stage…

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Agree with your argument

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Spent the past couple of hours going through this thread. Very enjoyable and very honest.

My two cents here.

  1. In my view, intuition precedes the process. There are enough large mutual funds that will follow a process much better than retain investors. In my investment journey, the biggest wins have come using a combination of intuition backed by process. The big losses have come from intuition not backed by process. You need both.
  2. I also have a 50-50 allocation between mutual funds and DIY equity. One broad principle I follow is to go for mutual fund, when a industry is very hard to understand and black swan events are more likely (e.g., pharma sector) OR when I want to diversify but don’t have the time and knowledge (e.g., non-India exposure).
  3. I liked your return expectation but I would suggest you to tone it down further. My return expectation from equity (both mutual fund and DIY) is 8% post tax and as long as I am meeting it, I am fine. I do seem comments on 30% return expectations - the only times I have been able to achieve this is when I have been lucky in both entry and exit (in about 20 years of investing). Coming back to 8%, what the 8% returns allows me to do is avoid FOMO. For example, when the market is up and overvalued, I have chosen to completely exit the market because my expected returns for the next 5 years is already met and if the next correction takes even 5 years, I won’t fret with getting 6-8% in debt (which is bonus on top of 8%). This is contrary to popular perception of staying invested all the time but this ability to exit significantly/completely has helped my personally.
  4. When you look at auto sector, I would suggest look at auto financing companies. My best all time pick happened when I made that switch many many years back - and these companies are no longer as undervalued.
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Good to see comments from someone with 2 decades in market. If you have a portfolio thread, let us know…also in 2 decades, if you would have held on to quality names, many have given 100x returns…and these are leader companies which were good names even 20 years back and from solid business houses…so do you still think you were better off exiting completely time to time rather than remaining invested? Thanks

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so do you still think you were better off exiting completely time to time rather than remaining invested?
As with everything else, it depends. Some of my exits were really timely (Satyam is the most notable one, which I exited before I had any clue about the scam, but there are many more names like that). Some were debatable (e.g., I exited Shriram Transport at 1000, purchase price was 12 rs) and re-entered it after few years, some were clearly wrong (Gail for example). However, I had ventured a lot in small/mid caps and this exit also allows me to look at fresh names, which are small.

However, as I have said before, my exits have been very lucky. My first stint was 2001, which I exited in 2007 and re-entered on Diwali day, 2008 (remember the day because sensex had touched 50% of its last peak on that day) and continued to accumulate till about May, 2009. Then, I exited around 2012 and re-entered around 2013-2014. Barring the last few years, my first decade had taught him that there is always bad news around the corner - 9/11, India Kargil war, Vajpayee government not coming back, Lehmann crisis). However, things have been a little too stable for my style of investment the last few years with demonetization and March, 2020 being the only opportunities for significant accumulation.

As you already know, it all depends on your style. I hate to pay premium for growth and I am very value conscious. So, it is hard for me to stay invested and continue adding even when valuations do not give me comfort.

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Thanks for taking effort to go through the entire thread.

  1. Intuition Vs Process - Yes, what you are saying is right. I feel there is no one right way on this argument. This is one of those topic where you can finish bottle of whiskey and still topic remains inconclusive

  2. Nice way to use mutual funds. I use mutual funds as part of my core portfolio. It is easy and transparent tool to generate descent returns.

  3. Return expectations - For a growing economy, I think mid to high teens return expectations are reasonable to expect. Toning down further may not give me required incentive to improve myself as an investor.

  4. Entry /Exit - I would like to learn that in future. I have not taken any ‘exits’ or even ‘trims’ for profit booking so far. Nothing to proud of. All through out i have been maintaining 100% allocation to equity, 0% cash. Again whether to time market or not , we need separate bottle of whiskey and discussion will not lead to any conclusion. We have successful examples of both the approaches.

  5. Auto financers do not give me exposure to aftermarket, non-auto and export

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Considering you have 2 decades of experience, I should just shut up and think over your inputs
Thanks again!

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auto-financiers like shriram transport are heavy into secondary sales financing. In fact, that is the segment that traditional banks do not touch and had been their primary vehicle of growth in the last decade. But, yes, it won’t help in non-auto and export.

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Portfolio Update May 21
Direct equity - around 53% MF - Around 47%

Suprajit eng - no change
Ajanta pharma - no change
Kotak bank - added
Abbott - new position
MF - continued SIP

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Post 5 (Final post) – Learning portfolio construction from the mutual fund – Cash, market timing, and valuations

I think this is one of the most difficult topics to discuss because we have strong arguments from both sides. My belief is both sides’ arguments are valid and one has to choose what suits his/her temperament

Cash and market timing

Approach 1 – Always fully invested and never tried to time market

Ramdeo Agrawal is a proponent of this approach. It also suits his portfolio philosophy of QGLP AKA Growth. The following video explains his thoughts - why is he against market timing

Approach 2 – Cash call if suitable opportunities not found

PPFAS followed this approach in 2017 – 19. Their argument was, the cash they are maintaining is not to time the market but because of lack of opportunities in the market as per their fund philosophy. In other words, in bear markets also if they don’t find opportunities suitable to their portfolio they can maintain cash, or in a bull market if they find opportunities that pass their fund philosophy, they will be fully invested

Approach 3 – Pure market timing

Self-explanatory. We have successful examples of this approach also. ( can anyone tell me who has followed this approach successfully in the Indian context? )

Valuations

I don’t have much to add after ‘the great debate’ between Sunil Singhania and Saurabh Mukharjee last week. I believe the price we pay for the business is important for the returns we achieve. Although as we increase our time horizon that correlation becomes weaker and weaker

My thoughts and learning

Cash and market timing

I started investing in the IDFC fund on 15th July 2015 and in Axis Fund on 20th Dec 2015. For IDFC tax advantage elss – point to point return from the start date till yesterday is around 14% but my XIRR is 19.59%. Similarly, my XIRR for axis long-term equity is 19.2% against point-to-point returns of 16.28%. I achieved better performance than a mutual fund because of good discipline and behavior. Good discipline is dollar-cost averaging or SIP and good behavior is buying additional units when funds or strategy is underperforming. In other words, I ‘timed’ my additional purchases while being ‘fully invested’ through SIPs

I am trying to use the same tactic in my current direct equity portfolio approach. Stagger investments over a long time horizon can give better results than taking the position in one go.

Valuations

I try to avoid the entire valuation puzzle, by avoiding the businesses that are currently hot favorite and initializing position when there are some headwinds at the industry level or company level

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There is not much difference in long term performance of PMS and Mutual fund. Going by above data

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Bull Market and FOMO

I believe my current WIP approach has good controls to avoid bull market mistakes because of FOMO.

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Only time will tell if the controls are good or bad

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I believe in second line of defence you can also consider stocks which are in strong momentum. The reason for that is most people avoid such stocks thinking about valuation trap but in a long investing timeframe such 10-20% move momentum doesn’t matter much but you can get good stocks in your portfolio.

A combination of out-of-favour and in-favour has worked for me well in past.

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