Stopped fresh inflows in the fund keeping investor’s best interest in mind 

When mid-cap, small-cap or micro-cap funds become too large, fund managers often find it hard to manage them, because the scheme’s liquidity gets compromised if there is a rush on redemptions. Traditionally, the Indian mutual funds industry did not have the practice of stopping inflows, possibly because continuous inflows make them larger and larger. But slowly, the industry is waking up to the need to close their doors—in the best interest of existing investors. The latest to do so is DSP BlackRock Micro Cap Fund, which shut its doors with effect from 20 February, for sale of fresh units for both lump sum investments and systematic investment plans (SIPs). We spoke to its fund manager Vinit Sambre, to find out how this would impact the fund and its investors. Edited excerpts:

How crucial was it to shut DSP BlackRock Micro Cap Fund (DMC) for further subscriptions? As a move that is aimed to keep the interest of investors at heart, do you think more and more small- and mid-cap funds or micro-cap funds should stop inflows from time to time?

We took the decision of shutting down DMC fund only when we felt it absolutely hit our capacity limit in terms of building decent-sized weights of companies in the fund. Twice earlier we had tried to restrict flows by putting limits, but still the flows continued. 

I think it was crucial to take this decision now, else we could have compromised with the future performance of the fund. As far as other funds are concerned, it is for each of them to evaluate if they face similar challenges and decide. I can’t comment beyond this.

How important is liquidity to a fund like DMC?

Liquidity in the market is extremely important for any category of funds and can be a challenge particularly if the fund outgrows in size. Having said that, we have been able to manage it well so far. We had done this by focusing on high-quality companies, where it is easier to generate liquidity at price points.

You had given about 3-5 days’ notice before you actually stopped accepting money. Distributors say DMC got a lot of money in this period as people scrambled to get in. In hindsight, would a better practice have been to just stop accepting money immediately after making the announcement? People getting in at the last moment also throw water on the whole point of stopping fresh inflows, don’t they?

We got approximately 1.8% of the fund size in the next 5 days, after we made the announcement. Closing the fund would have immediately impacted clients or advisers whose transactions were in transit and disrupted applications which had been filled up or were in process.

It is a good practice to give the right amount of time for the message to reach all our investors and advisers. Closing the fund overnight, without enough time, also impacts the applications that come through online platforms and again lead to poor experience for investors. 

How does it feel to say ‘no’ when other small- or mid-cap funds are accepting money?

We took the decision in the best interest of investors of DMC and frankly, we can’t be influenced by what others are doing.

You had restricted lump sum investments in DMC last year. But fresh SIPs were getting registered. Now that this year—within a span of 6-8 months—you have stopped fresh SIPs, could you not have stopped fresh SIPs last year itself when you had restricted lump sums?

Our fund size was far smaller a year back and we were comfortable with valuations. The fund has more than doubled in size since then and hence at current valuations we decided to stop all new inflows.

Just to play the devil’s advocate, when you stop accepting inflows in a scheme, does it influence investors to start selling, because it kind of gives them the message that valuations are high and the ‘buy-low-sell-high’ philosophy starts to play out?

It depends on the time frame for which investors are taking exposure to the fund. We agree that valuations are high at this point, but company earnings grow over time and it is difficult to determine the best point of entry and exit. I think investors should never lose track of their broader asset allocation strategy, depending upon their risk appetite. That, to me, is a better thing to do as an investor. 

Now that you have stopped accepting fresh inflows into DMC, does this give you a chance to make changes in your portfolio, like, say, shortening the tail (the portion of the portfolio where stocks held occupy no more than 1-2% of the overall scheme’s corpus) or such moves?

We do not plan to carry out big changes to the portfolio. We don’t think we would like to reduce the tail. I think we are comfortable tracking these companies and would continue to own them. 

Distributors say that DSP BlackRock has now started to sell or promote DSP BR Small and Midcap Fund (DSAM). Is that an alternative to investors who failed to get into the DMC?

What we are saying is that the DSAM is another fund in that segment of small- and mid-cap funds. It is not necessarily micro-cap and has the flexibility to hold higher market capitalisation companies. The common thread though is the investment philosophy, which investors should take cognizance of. 

It is recommended for investors who are comfortable with this philosophy. 

How different is DSAM from DMC?

While the investment philosophies of DMC and DSAM are the same—and I manage both these schemes—DSAM’s portfolio largely comprises securities ranked between 100 and 300 by market capitalization, with a small exposure to securities ranked beyond 300 by market capitalization. 

DMC only invests in companies that are ranked beyond 300 by market capitalization. Both the funds follow a bottom-up stock selection approach, with a significant amount of focus on identifying fundamentally strong companies, which could create value over the long term.

What sort of companies do you like to pick for DMC and DSAM, and specifically what type of companies would you avoid? What would be your average holding period for the underlying holdings? 

Both schemes follow a bottom-up stock selection strategy. We try to identify companies that are run by capable and credible management teams. 

The companies should have demonstrated a long history of generating positive cash flows, superior return on capital employed (RoCE), and should possess sustainable competitive advantages. 

We follow a buy and hold approach. We also look at some cyclical businesses at the cusp of a turnaround, where RoCEs are slated to move up in the foreseeable future. We exit stocks when we think that valuations have run much ahead of the medium-term fundamentals. 

We also sell stocks where the incremental capital allocation decisions are sub-optimal and could potentially hurt the RoCE of the company. 

I do not like to hold on to companies where we see corporate governance issues cropping up. In my experience, I have noticed that the stock price volatility tends to be lower as holding period increases. Hence, I believe that the best way to contain the volatility is to hold the stock for a long term.