Our Top Buys for expected Multi-Cap rebalancing
The SEBI Circular for revising asset allocation norms of multi-cap funds is widely expected to drive flows into mid and small cap stocks. However, the SEBI clarification suggests that portfolio rebalancing is only one of the options for the MF industry and it is open to industry representation on the revised norms.
The capital markets regulator, SEBI, on Friday, revised the norms for holdings under multi-cap funds (SEBI Circular). Under the new norms, the multi-cap funds need to allocate – (i) at least 75% of AUM to equities (up from 65% earlier), and (ii) large, mid and small cap stocks should each have at least 25% of allocation by January 31, 2021. Since, currently the multi-cap fund (AUM of ~Rs1.5tn/US$21bn) holdings are tilted towards large cap stocks (~73% of AUM as of Aug-2020), it is widely anticipated that the mutual funds would have to rebalance the portfolios by increasing allocation to mid cap stocks (~17% of AUM as of Aug-2020) and small cap stocks (~6% of AUM as on Aug-2020). However, the clarification issued by SEBI (SEBI Clarification Circular) on Sunday evening also points out that portfolio rebalancing is one of the options available to mutual funds and the MF could consider options like merging with existing schemes. The clarification also suggests that SEBI is open to inputs from MF industry on the revised rules for multi-cap funds.
In today’s trading session, the mid & small cap indices have surged ~2.5% & 5% higher, respectively. However, the expected rally in mid and small cap stocks, due to rebalancing of multi- cap fund portfolios may not necessarily materialize.
That said, we shortlist companies from our coverage universe that are best positioned to benefit if the portfolio rebalancing was to happen. The stocks are shortlisted by filtering companies that have FY22ii RoE of more than 10%, FY20-22ii EPS CAGR of more than 7.5% and FY22ii OCF/EBITDA ratio of more than 50%. Please note that the FY22ii PE ratio calculations have been adjusted to avoid the pandemic related earnings impact.
The shortlist includes companies like Kaveri, Godrej Agrovet, Sudarshan Chemical, Deepak Nitrite, Ashok Leyland, IPCA, Mphasis, etc. Further, we also look at the large cap holdings of the multi-cap funds. The 10 largest large cap holdings (HDFC Bank, ICICI Bank, Infosys, Reliance Industries, Bharti Airtel, Axis Bank, L&T, TCS, Kotak Mahindra Bank and SBI) account for 48% (~Rs531bn/US$7bn) of overall large cap holdings of multi-cap funds, and hence, the rebalancing could be an overhang for these stocks.
Figure 1: Our Top Buy list of Mid and small cap picks for expected multi-cap fund rebalancing
Mkt EPS Cap OCF/ CAGR CMP (US$ P/E RoE Ebitda FY20- Name Sector Recommendation (Rs.) Mn) FY22 FY22ii FY22ii 22ii Kaveri Seed Agriculture Buy 525 431 9.3 28 96 17 Godrej Agrovet Agriculture Buy 492 1,284 25.8 16 77 31 Quess Corp Industrials Buy 373 750 17 12 66 14 Coromandel Intl Agriculture Buy 748 2,983 15.5 23 87 14 Sudarshan Chemical Chemicals Buy 434 408 18.2 21 63 26 Aarti Industries Chemicals Buy 1,022 2,422 25.4 16 116 15 Deepak Nitrite Chemicals Buy 733 1,360 19.3 22 75 -7 Atul Ltd Chemicals Buy 6,291 2,537 30 15 73 -3 SRF Chemicals Buy 4,206 3,288 22 16 88 21 CreditAccess Grameen Financials Buy 708 1,386 14.8 20 NA 43 CIFC Financials Buy 224 2,501 11.2 16 NA 24 City Union Bank Financials Buy 134 1,341 16 10 NA 14 Federal Bank Financials Buy 52 1,404 7.3 9 NA -5 M&M Fin Services Financials Buy 131 2,198 10.2 9 NA -15 Blue Star Industrials Buy 606 794 33.1 22 74 8 TTK Prestige Consumer Discretionary Buy 5,850 1,103 38.1 13 81 9 ICRA Financial Services Buy 2,758 362 23.6 13 72 15 Ashok Leyland Auto Buy 68 2,720 22.8 12 98 49 ACC Cement Buy 1,322 3,375 16 12 89 9 HeidelbergCement Cement Buy 180 556 12 20 76 13 Kajaria Ceramics Building Material Buy 473 1,023 25.7 13 87 8 Ipca Laboratories Healthcare Buy 2,013 3,459 25.6 18 72 27 JB Chemicals & Pharma Healthcare Buy 800 840 17 18 63 14 Alembic Pharma Healthcare Buy 911 2,436 20.7 18 78 -2 Bharat Electronics Industrials Buy 102 3,388 11 17 53 11 KEC International Industrials Buy 325 1,135 11.4 19 51 14 Mphasis IT Buy 1,155 2,930 15 20 76 9 Persistent Systems IT Buy 1,007 1,047 14.7 18 64 23 PNC Infratech Construction Buy 158 549 9.6 13 50 -5
Figure 2: Top 20 Large Cap holdings of Multi-Cap Funds
Share of Large Holdings Cap Holdings Company (Rs. bn) (%) HDFC Bank 89 8 ICICI Bank 82 7 Infosys 76 7 Reliance Industries 66 6 Bharti Airtel 40 4 Axis Bank 39 3 Larsen & Toubro 36 3 Tata Consultancy Services 36 3 Kotak Mahindra Bank 36 3 State Bank Of India 33 3 Hindustan Unilever 26 2 ITC 24 2 Bajaj Finance 24 2 Ultratech Cement 20 2 ICICI Lombard General Insurance Co 17 2 HDFC 17 2 Britannia Industries 16 1 NTPC 16 1 Sun Pharmaceutical Industries 16 1 Maruti Suzuk iIndia 16 1
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