Indian Markets – Pattern Analysis

Equity investors on the Indian bourses have had a fluctuating ride in the last decade or so. The turbulence in the domestic markets continues due to global cues and intrinsic issues. WTC Incident, Iraq War and Sub-prime crisis were the major global events which affected us. Currently the markets are also facing headwinds amidst the Eurozone crisis.

On the domestic front, we were in somber mood because of political logjam in 2004 elections, double taxation avoidance agreement (DTAA) worries in 2006 and proposed regulatory actions in 2007 and 2008 by SEBI to curb P-Notes. It was not always a rough ride, the key Indian markets also passed through a euphoric phase in the second half of 2007 which eventually ended in 2008 until the markets again recovered in 2009.

Amidst the volatile markets, stock picking is always a tough task and lot of stress is on a tendency of entering at low levels and exiting at high levels. This strategy is aimed for winning but on umpteenth occasions it often results in pains because of the simple reason that it is next impossible to time the markets.

Yes, it’s hard to time the market and also they are governed by various factors originating from domestic or global arena. But if we analyze the patterns of the past 10 years or more, since the start of year 2000, the experience of this timeline can provide some cues about the market behavior in different time-frames of the year. These revelations can help in drawing conclusions on the various market patterns and possibilities on a preliminary basis.

Following is the data for returns generated by BSE Sensex and S&P CNX Nifty from Jan-2000 to June-2012 on a month-on-month basis. The returns calculated on last trading session of each month and calculations initiated from values of 31-Dec-99.

BSE Sensex:

S&P CNX Nifty:

G/L: Gains vs. Losses in a respective month over different years.

Avg.: Average returns of a month across different years.

Revelations:

1) June has the most occurrences in favor of gains vs. losses (10/3) followed by December (9/3) for both Sensex and Nifty.

2) Occurrences of losses overpowering gains were the most in March and May respectively.

3) 8 out of 12 months have positive average returns for both indices. The highest average returns generated in December and the lowest average returns generated in March.

4) Out of 150 months, Sensex has generated positive returns on 80 instances and ended with negative bias on 70 instances. Nifty generated positive returns for 82 months and ended up in red on 68 instances.

5) The benchmarks ended in green for 11 months in 2006 and generated negative returns on just one occasion. In 2011, these indices faced red on 9 months and just managed the green shade on 3 occasions.

Annual Patterns:

The indices have performed well in the second half of the year in comparison to the first half of the year. Sensex and Nifty generated average returns of .27% and .22% in first half of the calendar year. In the second half, average returns scaled up to 2.05% for Sensex and 2.15% for Nifty.

If we further prune down the analysis of average returns on a quarterly basis, the results are as mentioned above. The 4th quarter has shown the most impressive returns on an average basis and the 1st quarter has shown the worst performance.

On analyzing the pattern, the cautious approach in the first half of the calendar year can be primarily attributed due to uncertainties originating from budget event (in Feb) and worries on the monsoon front, a major dependency for our agrarian economy.

The investor was more interested in markets in the second half as it revolves around lot of festivities which starts from August and lasts up to December. The consumer demand soars in these times and it gives a boost to revenue figures of the companies. This is also reflected in the higher returns in the market in the second half and especially in the last quarter (Oct-Dec).

The market mood also depends on the investment patterns adopted by FIIs, hedge funds and domestic mutual funds and insurance companies. The respective views of these large players drive the investment behavior of retail investors.

The year-wise story so far:

Since 2000, only on 4 instances the benchmarks slipped into the red. 2008 was the year when the benchmarks were in a firm bear grip, courtesy the sub-prime crisis. 2009 was the year when both the indices rebounded sharply owing to UPA’s stronger-than-foreseen poll victory in their second term and expectations of robust measures to boost economic growth.

The last row in the above stats deals with difference of Sensex and Nifty returns on a year-wise basis. On some occasions the difference is miniscule but on others the difference was large as 7%. Nifty generated 54% returns in 2007 but Sensex managed only 47% in 2007. However in 2009, Sensex outscored Nifty in yearly returns by 5%.

If an amount of 10000 was invested in Sensex and Nifty on closing basis of December 31,1999 then the current valuation of the same, as on date is 34819 for Sensex and 35657 for Nifty. The highest valuation on the same criteria (closing basis of month) was reached in Dec 2010 for Sensex (40970) and in Dec 2007 for Nifty (41464). It reached very close for Nifty in Dec 2010 (41436) but was not able to surpass the previous high it attained in Dec 2007.

Caveat Emptor:

All in all, this is just a preliminary analysis of patterns since year 2000 to have some cues about the market behavior in different time-zones of a year. This pattern emerged out in the selected time-frame and by no means is conveying that this pattern will be continued in the years to come. This is primarily because of lots of domestic and global factors drive the markets performance on a broader basis in different time-frames of the year.

These findings should not be solely used to initiate any investment behavior and investment decisions in equities. Thorough research needs to be undertaken by the investor for stock screening and Equity MF screening activities.

Diversified Equity Funds vs. Contra Funds – Review

The table below lists out equity diversified funds from the large cap and large to mid-cap bias along with their returns across similar timelines. In addition to this, contra funds returns are also listed for comparison purpose.

Fund Returns: (Equity Diversified Pack)

Fund Returns: (Contra Funds Pack)

Green: Outperformance of fund w.r.t both Sensex and Nifty.

Red: Underperformance of fund w.r.t both Sensex and Nifty.
YTD: Year-To-Date Returns

Highlights: (Equity Diversified Pack)

i) Canara Robeco has consistently outperformed the benchmark on all timelines.

ii) SBI Magnum Equity has been able to outperform both the key indices in the last 4 iterations.

iii) 2009 and 2011 was the best year for this fund basket as all the funds have outperformed Sensex and Nifty.

iv) On an average basis, diversified equity funds have been able to outscore the benchmarks on all occasions.

v) In comparison to the contra funds, lot of green is available in the table above, conveying more outperformance vis-à-vis underperformance.

Highlights: (Contra Pack)

i) L&T contra has been a consistent underperformer on all timelines except the YTD returns.

ii) Tata contra has been able to outperform both the key indices in the last 4 iterations.

iii) 2010 was the worst year for contra funds and only exception was Tata contra which managed to outperform Sensex and Nifty.

iv) It has been a decent year so far for the contra funds; with 5 out of 6 funds have outperformed the benchmarks, although not by a huge magnitude.

v) On an average basis, contra funds have been able to outscore benchmarks on just 2 occasions, namely, 2009 and on YTD basis this year.

Top 3 Industry Concentrations: May-31-2012 (Equity Diversified)

Top 3 Industry Concentrations: May-31-2012 (Contra)

The above stats about the top 3 industry concentration reveals that “Financial” as an industry is the top pick for all the 5 equity diversified funds and contra funds as well. Energy or Tech is the second most favorite industry for this pack. The third slot is again occupied by FMCG, Energy or Tech industry, interchangeably.

Top 5 Holdings: May-31-2012 (Equity Diversified)

Top 5 Holdings: May-31-2012 (Contra)

On analyzing the top 5 holdings data from equity diversified pack, the stocks chosen are mostly blue-chips or stalwarts as per their asset allocation bias.

If we analyze top 5 holdings data from the contra pack, the stocks chosen are again mostly blue-chips or stalwarts that have become out of favor due to reasons either intrinsic to them or on a broader note, to the industry itself.

Apart from the blue-chips, the other contra bets such as GSFC and Sadbhav Engg. (Not so famous names) but they are far and few in between.

Conclusion:

After a thorough evaluation, it is now a revelation that almost all the contra funds are also employing a value investing approach. The top picks and top industries are in line to the diversified equity fund following a large-cap bias or a value based style.

The equity diversified pack has shown a decent performance almost on all historical timelines. On the flip side, in contra pack, the returns have faltered on historical timelines but on an YTD measure the returns they have been on a positive side.

This positive aspect is also a reflection on the change in the investment style where the focus in the contra pack has also shifted to blue-chips/heavyweights, thus proving that contrarian approach is not anymore an inherent feature of these contra funds.

Additionally, expense ratio of contra funds is also on a higher side vis-à-vis equity diversified pack because contrarians have a short-term approach and thus involves a lot of churning in the portfolio which also contributes to the higher expense ratios.

Contra Funds - Review

The turbulence in the domestic markets continues due to global cues and intrinsic issues. Any turbulence in the markets leads to shift the focus towards Contra Funds (Mutual Funds) vis-à-vis regular diversified equity mutual funds. Amidst volatility, the patrons of the Contra funds have once again started advising them to the investor community. They were the star performers in 2008-09 crisis primarily because of their ability to contain downside and decent magnitude of upsurge.

What is a Contra Fund?

Contra, short form of contrarian, focuses on stocks or sectors which are beaten down owing to intrinsic reasons. However, there is nothing wrong with the industry and they have a potential to bounce back in the future. Contra Funds invest in these out of favor stocks for their intrinsic growth potential which the current price may not reflect. The aim of these funds is to gain form the price advantage by investing in these stocks.

Indian Contra Funds

As of now, 6 AMCs have launched the contra funds in their funds basket. Almost all the major fund houses like SBI, Tata, Kotak and UTI have contra funds offerings. SBI launched the first contra funds in India, way back in July 1999. Following table lists out the contra funds currently operational in India with their respective “Expense Ratios”.

As can be seen from the above list, the expense ratios of these funds are on the higher side and barring two, rest 4 are hovering around 2.50%. The best bet in terms of expense ratio is UTI contra with 1.64%. The question which comes to my mind after seeing these whopping expense charges is that if these funds are outperforming key benchmarks and by what magnitude.

Although another school of thought is that contrarian investing is not an instinctive reaction in volatile markets. The purchases are made during widespread carnage, contrarian investing relies on in-depth research to source out greatly mispriced stocks and the foresight to look beyond the short-term volatility.

Performance Review

The next research is on analyzing the returns of these funds for the last 5 calendar years with respect to the key benchmark indices, Sensex and Nifty. The following table highlights the performance of the 6 funds on various timelines.

Green: Outperformance of fund w.r.t both Sensex and Nifty.

Red: Underperformance of fund w.r.t both Sensex and Nifty.

YTD: Year-to-Date

 

Highlights:

i) L&T contra has been a consistent underperformer on all timelines except the YTD returns.
ii) Tata contra has been able to outperform both the key indices in the last 4 iterations.

iii) 2010 was the worst year for contra funds and only exception was Tata contra which managed to outperform Sensex and Nifty.
iv) It has been a decent year so far for the contra funds; with 5 out of 6 funds have outperformed the benchmarks, although not by a huge magnitude.

v) On an average basis, contra funds have been able to outscore benchmarks on just 2 occasions, namely, 2009 and on YTD basis this year.

AAUM’s in Crores: (as on 31-March-12)

On “Average Assets under Management” terms, the oldest contra fund SBI contra has the corpus of 2702 crores which account for almost 88% of the contra funds basket. L&T is a minnow in the asset race with just 8 crores in its kitty and it has to work hard to compete with even second last player in this category. The total AUM of the contra funds basket stands at 3082 Crs. as on 31-Mar-12and it constitutes just 1.69% of the total equity funds AUM (182076 Crs.) as on 31-Mar-12.  

Top 3 Industry Concentrations: May-31-2012

The above stats about the top 3 industry concentration reveals that “Financial” as an industry is the top pick for all the 6 contra funds. Energy is the second most favorite industry for 5 out of 6 contra funds. The third slot is being occupied by FMCG, Energy or Tech industry.

Before reaching to any conclusion on industry picks, let us analyze the top 5 company picks for all the 6 funds.

Top 5 Holdings: May-31-2012

On analyzing the top 5 holdings data, the stocks chosen are mostly blue-chips or stalwarts that have become out of favor due to reasons either intrinsic to them or on a broader note, to the industry itself.

The banks on the whole have been on the receiving side due to the central banks anti-inflationary stance. Moreover as an industry, it is not really out of favor because of the immense potential offered by it and also because of the robust banking system prevailing in India.

The energy industry again offers tremendous potential in the country as most of the Indian states are reeling under acute power shortage. This industry is also facing the music of so called policy paralysis affecting the industry as whole.

The stock picking strategy reveals that fund managers are not staunchly following a contra style of investing, but it also has an element of value investing in it. This is purely because the top 5 highlighted here are not sufferers by any means and on the contrary they are market favorites and are frequently found in any large-cap diversified equity fund.

Apart from the blue-chips, the other contra bets such as GSFC and Sadbhav Engg. (Not so famous names) but they are far and few in between.

Conclusion:

After a thorough evaluation, it is now a revelation that almost all the contra funds are employing a value investing approach. The top picks are in line to the diversified equity fund following a large-cap bias or a value based style.

The high expense ratio for such a value picking strategy is not justified and as it is the returns are also not outperforming the major benchmarks by any means.

The contra fund name is just a fancy to allure the investor and any diversified equity funds with a large or large to mid-cap bias with a good track record and from an acclaimed AMC sounds a much better alternative.

Dogs of the Sensex

India Inc. continues to suffer from rising interest rates, high costs and policy paralysis and this is now also reflected in the dividend payouts of 2011-12 fiscal which declined w.r.t 2010-11 fiscal. The dividend payout numbers for all the Sensex constituents are out and reflects the somber mood prevailing in the Indian economy. The following table highlights the dividend payout data for 2010-11 and 2011-12 fiscal.

Highlights: 

a) The net dividend payout (interim and final) for 21 companies has increased from 2011 to 2012.

b) For 5 companies, the net dividend payouts for both the fiscals have been status-quo.

c) The dividend payout shrinks from 2011 to 2012 fiscal for 4 companies.

d) The negative shock came from Hero MotoCorp for which the dividend plummeted from 5250% in 10-11 fiscal to 2250% in 11-12 fiscal.

e) The positive surprise originated from TCS for which dividend increased from 1400% in 10-11 fiscal to 2500% in 11-12 fiscal.

f) The average dividend payout for 2010-11 fiscal stood at 432% and it decreased to 401% in 2011-12.

Assumption:

Current set of Sensex constituents is assumed for both the fiscals for smooth comparison.

Sensex – Dividend Yield:

The list below displays the top 10 dividend yields of Sensex as on EOD values of 13-Jun-12.

As can be seen from the above list, top 3 ranks in the list are occupied by PSUs and 4 PSUs make it to top 10. 2 Auto companies also make it to the top 10.

Amidst the volatile markets, stock picking is always a tough task and lot of stress is on a tendency of entering at low levels and exiting at high levels. This strategy is aimed for winning but on umpteenth occasions it often results in pains because of the simple reason that it is next impossible to time the markets.

In an effort to find a stock screening system, I came across a mechanical strategy that sounds easy as well as convenient. This strategy requires just an effort of two-three hours in a year. The name of the strategy is “Dogs of the Sensex”.

Dogs of the Sensex “Strategy”

Dogs of the Sensex is a replication of a very simplest “Dogs of the Dow” or “Dow 10” strategy introduced by Michael O'Higgins and John Downes in early 1990s. The strategy is aimed at investing in 10 highest dividend yields. Dividend Yield is a measure of dividing the latest annual dividends by the current stock price. A high dividend yield implies stocks whose prices have fallen and are available at favored prices for the investors.

The investments are done in top 10 dividend yields of Sensex for a period of one year. The portfolio is rebalanced after one year as per the latest dividend yields. It is a pure mechanical strategy which gets rid of all the research, patterns and subjective inputs involved in the stock screening activities.

A low dividend yield indicates an over-priced stock and a high dividend yield indicates an underpriced or beaten down stock. The beaten down stocks are the best candidates for upsurge in prices.

The strategy is pretty much in line with the fact that one would like to have a portfolio of companies with impressive dividends and beaten down prices (Sensex Sufferers). It is also supplemented with the combinations of stocks a.k.a blue-chips which has an impressive track record in the past and thus also are making it to the Sensex.

The companies listed out for fiscal 11-12 also coincidentally creates a diversified portfolio in the process with presence felt from all the major industries contributing to India Inc. story.

Performance of Dogs of the Sensex (Fiscal 10-11)

The top 10 dividend yield picks for fiscal 10-11 along with their respective Y-o-Y returns as on 13-Jun-2012 are as follows:

 Highlights:

 FMCG duo HUL and ITC secured the first and the second position for highest returns category.
 BHEL secured the top position for negative returns.
 60% of stocks ended up in advancing and 40% in declining categories.
 On comparison of lists of both the fiscals (10-11) and (11-12), there have been 3 new entries:
i) Coal India , ii) TCS and iii) ICICI Bank

The average returns of the pack were 2.20% on a year-on-year basis and it outperformed the benchmark (Sensex) by far which generated -7.59% returns in a similar time frame.

Assumptions for the strategy:

i) Hold and Sell of stocks after a day more than a year as it is considered as long-term capital gain (LTCG) and LTCG are not taxed at all. Any gains that you make by buying and selling stock(s) within a year’s time-frame is considered as short term capital gains and it is taxed at 10 per cent.

ii) This strategy also is not taking into account the transactional costs while the portfolio rebalancing exercise is carried out.

iii) A high dividend yield can also be either because of the stock is tremendously beaten down or it may have substantially increased dividends due to one-off reason (Asset sale, Capital Gain, Special Dividends)