Funds bet big on future earnings

Earnings multiples higher than Sensex, Nifty.

If the price-earnings (p/e) ratios of their portfolios are anything to go by, domestic fund managers are betting on bigger growth in earnings than what the market can generate on an average.

Most of the actively managed equity funds have earnings multiples higher than those of the two key indices "" BSE Sensex and the broad-based Nifty.

Out of 156 equity mutual funds, 152 or 97 per cent have p/e over 20, based on trailing 12-month earnings. In contrast, the Sensex currently has an earnings multiple of 19.62, while it is 18.77 for the 50-share Nifty. The average p/e of equity funds stood at 35.35.

"This is a typical bull market phenomenon when fund managers usually take an aggressive stance and count on higher growth," said Dhirendra Kumar, chief executive officer, Value Research, a Delhi-based firm that tracks the mutual fund industry.

The higher component of some mid-cap stocks in the portfolio as well as increased concentration in hot sectors like construction and capital goods have contributed to making fund portfolios most expensive in terms of valuations.

The reliance on higher growth in the future makes the funds more vulnerable to earnings disappointments, especially during a market crack, he added.

However, fund managers do not quite agree that actively managed funds today run a higher risk. "Most of us are playing more on the side of caution. Though the trailing numbers may tell a different story, if one looks at the forward earnings estimates, most funds may not seem very expensive," said Nilesh Shah, chief investment officer, Prudential ICICI Mutual Fund.

There are also certain technical factors that may make the indices look cheaper. "The lower earnings multiple for Sensex is primarily because three heavyweights "" Reliance Industries, ONGC and State Bank of India "" have multiples under 13, but these stocks do not get an equal weight in fund portfolios for stock-specific reasons," pointed out Shah.

Fund managers have been underweight on ONGC due to regulatory concerns over the company's financial performance being weighed down by a higher share of subsidy even in a rising crude price scenario.

Similarly, they have been underweight on State Bank of India on account of a higher interest regime. As for Reliance Industries, funds have traditionally not been overweight on it despite the fact that the stock has been a stunning performer in the past one year.