The stock market continues to remain overvalued despite recent corrections and muted corporate earnings growth. In the current financial year, the S&P BSE 500 is trading at an average PE of 26.12, higher than the average PE of 24.7 in 2018-19. Thus, the stretched valuations may lead to more corrections in the market in the near term.

At such times, investors may think of parking their funds with mutual fund schemes that can help in value discovery.

Value funds aim to invest in stocks, trading below their intrinsic value, which have the potential of smart growth in the future. These stocks show potential for growth because of their strong business fundamentals.

Value funds can offer a better risk-reward potential as they are better positioned to manage the downside risk during a market fall.

But value funds have fared poorly in the last one and a half years because the market has witnessed frequent crashes since February 2018.

Table 1: Performance of Value funds from February 1, 2018 till present

Scheme Name Returns (%)
From 1-Feb-2018 to 20-Aug-2019
Market cap trend as on July 31, 2019
    Large-cap (%) Mid-cap (%) Small-cap (%)
Aditya Birla SL Pure Value Fund -31.04 40.13 9.42 38.11
HDFC Capital Builder Value Fund -10.97 67.09 7.24 0.28
ICICI Pru Value Discovery Fund -8.29 69.65 12.77 2.87
IDFC Sterling Value Fund -21.06 16.21 38.30 38.64
Indiabulls Value Fund -22.32 11.19 30.57 11.82
JM Value Fund -11.18 80.80 15.98 1.67
L&T India Value Fund -13.79 65.21 19.17 12.16
Quantum Long Term Equity Value Fund -5.68 70.76 13.00 1.44
Reliance Value Fund -10.56 58.84 26.20 12.46
Tata Equity P/E Fund -8.71 66.58 20.28 6.10
Templeton India Value Fund -18.42 62.06 15.19 13.45
UTI Value Opp Fund -4.82 72.70 20.20 3.81

Data as on August 20, 2019
Direct plan-Growth option considered, Returns- Absolute
(Source: ACE MF)

Value funds follow a multi-cap approach and invest across market capitalisations. Each fund follows a different market cap bias. Additionally, there are a plethora of variations in the number of stocks each of them hold. The number of stocks in the portfolio of value funds ranges from 13-79.

The performance of Value funds over a shorter time period has left investors disappointed. All the funds have generated negative returns in the last 18 months. Most of the funds have generated double-digit negative returns during the period.

In the recent past, funds with higher exposure towards mid and small-cap stocks were the most affected, while those with a bias towards large-caps fared better.

So can value funds prove to be worthy in the long-run?

If you are thinking about cutting off value funds due to their poor performance in the recent years, then you are mistaken.

Table 2: Performance of Value funds in 3-year and 5-year period

Returns (%)
Scheme name 3-year 5-year
Aditya Birla SL Pure Value Fund 0.52 7.55
HDFC Capital Builder Value Fund 8.23 10.16
ICICI Pru Value Discovery Fund 3.79 8.18
IDFC Sterling Value Fund 6.66 9.67
Indiabulls Value Fund 1.44 NA
JM Value Fund 7.00 11.39
L&T India Value Fund 7.12 12.27
Quantum Long Term Equity Value Fund 4.60 7.73
Reliance Value Fund 6.72 10.03
Tata Equity P/E Fund 9.09 12.73
Templeton India Value Fund 4.31 6.93
UTI Value Opp Fund 5.83 6.36

Data as on August 20, 2019
Direct plan-Growth option considered, Returns- CAGR
(Source: ACE MF)

As we can see from the data in the table above, the performance of Value funds has improved over the longer time horizon of 3 years, though the returns of most schemes are not impressive enough. However, over the 5-year period many schemes registered double-digit growth.

With 9.36% average category returns during the 5-year period, the performance of value funds is in line with multi-cap funds and large-cap funds, which have average category returns of 9.5% and 9.18%, respectively.

Since value funds invest in stocks that are trading at a discount to its fair value, it may take time before the stocks reflect their true worth and generate meaningful returns. Thus, certain bets of the fund manager may not pay-off immediately; and therefore, the fund’s performance may appear to lag in short time frames.

Video: Will Value Investing Play Out in 2019 and the Challenges Ahead

Performance of Value funds from February 1, 2018 till present

As value funds invest across market-caps and pick stocks with focus on value, they may prove to be a winner in the long-run. One should invest in value funds only if one is ready to handle underperformance in the short-term. When the true potential of stocks in the portfolio are realised, investors will be rewarded for their patience with higher returns.

Graph: Valuations of Nifty 50 and Nifty MidCap 100

Performance of Value funds from February 1, 2018 till present


As can be seen in the chart above, the PE of Nifty 50 is still in the overvalued zone. However, the PE of Nifty MidCap 100 declined sharply and is trading below its long-term average. This makes it a good opportunity for fund managers to pick value stocks in the mid-cap space and create opportunity for wealth-building in the long-term.

Value funds can form part of your `Core portfolio’ if you are willing to take moderately-high risk and if you have an investment horizon of at least 5 years. Ideally, you should hold a mix of value and growth funds in your portfolio that can help in diversification.

However, it is important that you carefully select value funds for your portfolio based on quantitative and qualitative parameters. Make sure that the fund strictly sticks to the value-style of investing and is well-diversified across sectors/stocks. Opt for systematic investment plan (SIP) route to stagger your investment and get the benefits of investment cost averaging and compounding of wealth.

This article first appeared on PersonalFN here.

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