Looking for Best Value Funds to Invest in 2020?

Value investing is all about finding the 'hidden gems' of the equity market. Investors often look at the price of the stock while ignoring the value that it commands.

The fact is, it's important to pay the right price for the right stocks. This is exactly what Value funds endeavour to achieve. These funds seek to pick undervalued stocks, i.e. the stocks' current market price is lower than its intrinsic/fair value, but with strong fundamentals and high growth potential.

Fundamentally strong companies available at attractive valuations are more likely to overcome hurdles over time which will then be reflected in their stock price. This makes Value funds a sound proposition for long term wealth creation.

Looking for Best Value Funds to Invest in 2020?
photo created by jcomp - freepik.com

What are Value Funds?

Value funds are equity-oriented mutual funds that follow the value-investment strategy, investing minimum 65% of its assets in equity and equity related instruments across market capitalisation. These funds aim to invest in stocks that are trading below their intrinsic value but have the potential to grow over time due to strong business fundamentals. When the stocks in the portfolio realise their true worth, investors are rewarded with higher gains.

Value funds can offer a better risk-reward potential because they are better positioned to manage the downside risk during a market fall, but they may not participate well during a bull run.

Graph 1 : Placement of value funds on risk-return spectrum

Graph: Placement of value funds on risk-return spectrum
Note: For illustrative purpose only
(Source: PersonalFN Research)

On the risk-return spectrum, Value Funds are placed between ELSS and Divided Yield Funds. As the fund managers of value funds invest in undervalued stocks, some of their bets may not pay-off immediately. Thus, value funds can underperform over the short to medium term. This makes value funds high-risk high-return investment proposition.

Value funds can form a part of your core portfolio if you can handle an extended period of underperformance and if your investment horizon is more than 5 years.

Table: Will value funds make a comeback in 2020?

Scheme Name Absolute (%) CAGR (%)
1 Year 2 Years 3 Years 5 Years
UTI Value Opp Fund 17.94 6.98 10.47 6.15
Nippon India Value Fund 15.38 2.28 10.25 7.98
JM Value Fund 20.04 3.92 10.17 11.29
Tata Equity P/E Fund 12.03 1.02 8.39 9.78
HDFC Capital Builder Value Fund 4.48 -1.11 7.77 7.61
L&T India Value Fund 14.34 -0.09 7.22 10.36
IDFC Sterling Value Fund 7.98 -5.33 7.19 6.56
ICICI Pru Value Discovery Fund 5.43 -0.81 4.00 5.17
Quantum Long Term Equity Value Fund 0.33 -0.75 3.28 6.28
Templeton India Value Fund 2.26 -5.38 3.26 5.07
S&P BSE 500 - TRI 13.36 4.84 10.46 8.02
Data as on February 17, 2020
(Source: ACE MF)

Value funds have been largely out favour in the last couple of years due to the lack of value-buying opportunities. Due to the prolonged economic slowdown, investors shunned mid and small caps where value funds have substantial exposure. On the other hand, growth stocks continued to rise despite high valuations making it more attractive for investors. This led to a sharp underperformance in most of the schemes in the category.

[Read: Growth v/s Value Investing: Which Is Better Of The Two In Current Times?]

The extended underperformance in the last couple of years has dragged down the returns for longer investment horizon of 5 years as well. However in the last one year, some of the funds witnessed significant improvement in performance which could be due to tweak in orientation to growth stocks.

While investing in value funds it is important to invest in a fund that sticks to the guiding principles of 'Value Investing' for its portfolio construction activity. Also assess the following while selecting a value fund:

  • Does it follow a bottom-up approach to stock-picking, wherein the company's fundamentals and competitiveness, business model, management quality are deeply evaluated; and then the sector, the prospects of the industry it operates in, and lastly, the overall macroeconomic environment.

  • The fund manager should hold each stock with conviction and not churn the portfolio too often. Ideally, a fund manager should be following a buy-and-hold investment strategy to derive the full potential of the stocks in the portfolio and maintain a low portfolio turnover ratio.

  • How responsive is the fund manager to the developments that affect the companies he/she holds in the portfolio, and the efficient use of cash to safeguard the portfolio?

  • And the expense ratio of a Value Fund should be one of the least in its category.

Graph 2 : Crash in mid and small caps has provided opportunity to value-pick quality stocks

Graph: Crash in mid and small caps has provided opportunity to value-pick quality stocks
(Source: nseindia.com)

In addition, investors should also pay emphasis to a host of quantitative and qualitative parameters as mentioned below:

Quantitative Parameters:

  1. Performance and risk analysis

    Analyse if the fund has shown consistency in performance across various market periods with decent risk-adjusted returns.

    Under this, you need to rank the fund based on quantitative parameters like rolling returns across short-term and long-term periods, such as a 1-year, 3-year, and 5-year timeframe, and on risk-reward ratios like Sharpe Ratio, Sortino Ratio, and Standard Deviation over a 3-year period.

  2. Performance across market cycles

    You need to ensure that the fund has the ability to perform consistently well across multiple market cycles. Therefore, compare the performance of all the available value funds vis-a-vis their benchmark index as well as category peers across bull phases and bear market phases.

    A fund that performs well on both sides of the market should rank higher on the list.

Qualitative Parameters

  1. Portfolio Quality

    Adequate Diversification - The scheme should not hold a highly concentrated portfolio. It should have a well-diversified portfolio and the exposure to the top-10 holdings should be ideally under 50%.

    Low Churn - Engaging in high churning can result in higher cost impacting the overall return of the scheme. Therefore, you also need to consider the portfolio turnover ratio and expenses, and penalise funds involved in high churning, i.e. those funds with a turnover ratio of more than 100%.

  2. Quality of Fund Management

    You must consider the fund manager's experience, workload, and the consistency of the fund house. Therefore, assess the following criteria:

    The fund manager's work experience - He/she should have a decent experience in investment research and fund management, ideally over a decade.

    The number of schemes managed - A fund manager usually manages multiple schemes. Thus, you need to check if the fund manager is burdened with managing a large number of schemes. If they are managing more than five open-ended funds, it should raise a red flag.

    The efficiency of the fund house in managing your money - Research about the fund house's performance across schemes; find out if only a few selected schemes are doing well. A fund house that performs well across the board is an indication of sound investment processes and risk management techniques in place.

Yes, we know that the above list is a lot for an average investor to look at. It involves number crunching and much of the data is not easily available in one place. But if you do need to narrow down on the top funds, these factors are of utmost importance.

Watch this short video on selecting mutual fund schemes:

At PersonalFN, we select and recommend mutual funds on quantitative and qualitative parameters using our S.M.A.R.T Score Matrix:

  • S - Systems and Processes

  • M - Market Cycle Performance

  • A - Asset Management Style

  • R - Risk-Reward Ratios

  • T - Performance Track Record

Outlook for Value Funds in 2020

India's macro-indicators continue to be weak despite several measures undertaken by the government and RBI. However, some green shoots point towards gradual economic recovery. As the economy recovers, investments in value funds may pay off, though a timeline of expected recovery cannot be ascertained.

Furthermore, at some point stocks trading at high valuations may begin to slip, but strong businesses helmed by a well-built management team available at attractive valuations might hold firm. In such a scenario, value funds can be a good portfolio diversifier.

Value investing requires patience; this category has been known to generate attractive returns in the past. While value funds may not generate chart topping returns, it may do well to protect the downside risk, thus providing improved returns over the long term.

If you wish to invest in value funds, opt for the systematic investment plan (SIP) route, given the volatile nature of equity market, while you endeavour to compound your wealth in leaps and bounds.

Editor's Note:  If you wish to select worthy mutual fund schemes, I recommend you to subscribe to PersonalFN's unbiased premium research service, FundSelect.

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Author: Divya Grover