4 Equity Mutual Funds Focused on Investing in PSU Stocks

August 24, 2023 Mutual Fund

The Public Sector Undertakings or PSUs have a long-standing presence in India. The sector contributes around 15% of India’s GDP.

Even during the COVID-19 pandemic, the reported profits of PSUs increased to Rs 520.12 crore in 2020-21 from Rs 346.36 crore in 2019-20, as per a Comptroller and Auditor General of India (CAG) report.

In FY 2022-23 as well, a number of PSUs reported encouraging profits. The cumulative net profits of PSU banks alone crossed Rs 1 trillion (with State Bank of India accounting for almost half of the total earnings) on improved income and management Non-Performing Assets (NPAs).

From loss-making in 2017-18 to stellar profits, PSU banks have shown an impressive turnaround. Thanks to reform undertaken by the government, policy changes and adoption of technology. Besides, the government has injected over Rs 3.11 trillion to recapitalise PSUs in the last five years.

Other than banks, PSUs from other sectors are profitable. Life Insurance Corporation of India (LIC) is the second most profitable PSU (net profit of Rs 35,997 crore in FY23, a 773% increase since last year).

Then there are others such as ONGC, Coal India, NTPC, PFC, Power Grid, and REC Ltd., among others that are reporting remarkable profitability year-on-year.

Collectively 55 stocks in the S&P BSE PSU Index — which has representation across 10 sectors, viz. finance, power, oil & gas, capital goods, metals & mining, transport, telecom agriculture, etc. — have reported a net profit of Rs 3.40 trillion in FY23. This has been well captured in the way the S&P BSE PSU – Total Return Index (TRI), which has done much of the catching up and gained in the last five years, particularly after August 2020.

Graph: S&P BSE PSU – TRI vs. S&P BSE Sensex

Base = Rs 10,000
Data as of August 21, 2023
Past performance is not an indicator of future returns.
(Source: ACE MF, data collated by PersonalFN Research) 

The graph above clearly depicts that Rs 10,000 invested in the S&P BSE PSU – Total Return Index (TRI) has yielded Rs 18,040 as of August 21, 2023 (almost in line with the bellwether, S&P BSE Sensex), clocking a CAGR of nearly 13%.

The government plans to unlock value in PSUs with disinvestments.

The Modi-led-NDA government has identified 18 strategic sectors, including banking, insurance, steel, fertiliser, petroleum and defence equipment, where it will retain only a limited presence.

The government plans to exit the other sectors through privatisation and disinvestments. In this regard, the government has ambitious plans, but vis-a-vis the disinvestment target, the actual achievement is tardy.

Table 1: Disinvestment target v/s actual achievement

*FY22 budgeted estimate for disinvestment was revised downwards to Rs 78,000 crore.
*FY23 budgeted estimate for disinvestment was revised downwards to Rs 50,000 crore
(Source: Budget documents, DIPAM) 

Despite buoyant Indian equity markets in the last couple of years, the government has fallen miserably short of its budgeted disinvestment target as well as the revised estimates.

In the second term, the Modi-led-NDA has not achieved its disinvestment target even once.

For the current fiscal year, i.e. FY23, the government set a disinvestment target of Rs 65,000 crore, which also has been revised downwards to Rs 50,000 crore. Out of this, thus far Rs 35,294 is received (through various methods of disinvestments), as per data released by the Department of Investment and Public Asset Management (DIPAM), Ministry of Finance.

It is crucial for the government to achieve its disinvestment targets and walk the talk so that it also helps in the path towards fiscal consolidation.

The government may choose to disinvest from companies such as Container Corporation of India (CONCOR), Shipping Corporation of India (SCI), Bharat Earth Movers Ltd. (BEML), Bharat Dynamics, and NMDC Steel, among others with strategic sale or using other methods. Whether that really happens or not depends on the equity market sentiments, the external factors, and the direction of the equity markets.

Having said that, having exposure to PSU companies could potentially unlock value for you, the investors, more so when many are reporting profits.

To have exposure to a diverse range of PSU companies, investing in PSU Equity Mutual Funds — the actively managed ones and/or passively managed — makes sense rather than investing directly in PSU stocks.

PSU Equity Mutual Funds

PSU Equity Mutual Funds are open-ended equity-oriented that follow the PSU sector or theme. A dominant portion of their net assets is invested in equity-and-equity-related instruments of PSUs. Hence, PSU Equity Mutual Funds are classified as sector or thematic funds. They track their performance vis-a-vis a respective PSU – TRI index.

Some of the sectors that PSU Equity Mutual Funds have exposure to are finance, power, oil & gas, capital goods, metals & mining, transport, tourism, telecom, agriculture, and a few others.

The portfolio composition of a respective PSU Equity Mutual Fund could vary depending on the strategy followed by the fund as per the market condition in the endeavour to accomplish its stated investment objective.

That being said, by and large, all PSU Equity Funds hold a large-cap-biased portfolio (as most PSUs command a high market capitalisation).

At present, there are four actively managed open-ended PSU Equity Mutual Funds namely:

1. ICICI Pru PSU Equity Fund (with assets over Rs 1,508.48 crore)

2. Aditya Birla Sun Life PSU Equity Fund (with assets worth Rs 1,235.40 crore)

3. SBI PSU Fund (with assets over Rs 633.19 crore), and

4. Invesco India PSU Equity Fund.

So, you have limited options in this space.

Table 2: Top 10 Stocks Held by All PSU Equity Mutual Funds‘

Portfolio data as of July 31, 2023
(Source: ACE MF, data collated by PersonalFN Research) 

As exhibited by the table, most PSU Equity Mutual Funds have exposure to stocks such as SBI, NTPC, Power Grid, Coal India, ONGC, Bharat Electronics, Bank of Baroda, BPCL, and Hindustan Aeronautics among others with respective weights in the portfolio. Top-10 holdings of PSU Equity Mutual Funds constitute 55%-75% of their portfolios.

How have PSU Equity Mutual Funds performed?

With the S&P BSE PSU – Total Return Index moving up well in the last few years, the actively managed open-ended PSU Equity Mutual Funds have created wealth for investors.

Table 3: Performance of PSU Equity Mutual Funds Across Timeframes

Data as of August 21, 2023
The securities quoted are for illustration only and are not recommendatory.
Direct Plan-Growth option considered.
Returns considered are point-to-point and expressed in %.
Returns over 1 year are compounded annualised; else absolute.
Standard Deviation indicates Total Risk, while Sharpe and Sortino Ratios measure the Risk-Adjusted Return.
They are calculated over a 3-Yr period assuming a risk-free rate of 6% p.a
Past performance is not an indicator of future returns.
The table above is NOT a recommendation as such. Speak to your investment advisor for further assistance before investing.
Mutual Fund investments are subject to market risks. Read all scheme-related documents carefully.
(Source: ACE MF; Data collated by PersonalFN Research) 

All PSU Equity Mutual Funds, although have clocked attractive returns over a longer time period, none have been able to outperform the S&P BSE PSU -TRI on a 3-year period. On a 5-year and 7-year period, Invesco India PSU Equity Fund is the only fund that has been able to outperform the benchmark, i.e. generated alpha returns for its investors by smartly playing with the stock and sector weights.

Table 4: Performance Across Market Cycles

Data as of August 21, 2023
The securities quoted are for illustration only and are not recommendatory.
Direct Plan-Growth option considered.
Returns considered are point-to-point and expressed in %.
Returns over 1 year are compounded annualised; else absolute.
Standard Deviation indicates Total Risk, while Sharpe and Sortino Ratios measure the Risk-Adjusted Return.
They are calculated over a 3-Yr period assuming a risk-free rate of 6% p.a
Past performance is not an indicator of future returns.
The table above is NOT a recommendation as such. Speak to your investment advisor for further assistance before investing.
Mutual Fund investments are subject to market risks. Read all scheme-related documents carefully.
(Source: ACE MF; Data collated by PersonalFN Research) 

The evaluation of the performance of PSU Equity Mutual Funds across market cycles reveals that PSU Equity Mutual Funds have reasonably protected the downside risk during the bear market phase, i.e. fallen lesser than the S&P BSE PSU – TRI.

Having said that, in the current bull phase (March 23, 2020, till date), all PSU Equity Mutual Funds have underperformed the S&P BSE PSU – TRI. In comparison, the performance of diversified equity mutual funds on an average basis has been better across the bull and bear phases.

Does it make sense to invest in PSU Equity Mutual Funds at this juncture?

As the government makes strategic disinvestment from certain PSUs, it would unlock their value and result in re-rating.

Moreover, the emphasis on Aatmanirbharta or self-reliance would provide impetus to PSU companies from certain companies such as defence, capital goods, metals & mining, and agriculture, which are the core sector of the economy.

Even PSU banks are expected to benefit as more finance is required to be self-reliant. The cyclical industries from the PSU domain are expected to perform well.

But if we consider a broader gamut of cyclical stock from across sectors, I believe, certain diversified equity mutual funds would be well poised to benefit better by being sector agnostic as the economy expands.

Want to know which are the top diversified equity mutual funds to invest in 2023? Click here.

As a strategy, I suggest following a ‘Core & Satellite Approach’ approach. This approach is followed by even some of the most successful equity investors to build a robust all-weather portfolio with the best equity mutual fund schemes at a market high.

The term ‘Core’ applies to the more stable, long-term holdings of the portfolio, while the term ‘Satellite’ applies to the strategic portion that would help push up the overall returns of the portfolio, across market conditions.

Your ‘Core’ holding may comprise around 65%-70% of your equity mutual fund portfolio and consist of a large-cap fund, flexi-cap fund, and a value /contra style fund.

Whereas, the ‘Satellite’ holdings of the portfolio can be around 30%-35% comprising of a mid-cap fund, large & mid-cap fund, and an aggressive hybrid fund.

The core and satellite investment strategy may work for you in 2023 and beyond.

Who should consider investing in PSU Equity Mutual Funds?

PSU Equity Mutual Funds aren’t for the faint-hearted since a dominant portion of their assets are invested in the PSU sector. Their fortune is closely linked to the performance of the PSU sector. So, there is a high concentration risk.

Besides, there is a high political and regulator risks. If the government changes and policies change, it may influence their performance. For example, changes in taxes, subsidies, tariffs, input costs, etc. could impact PSUs.

Also, if PSUs do not keep up with the times and innovate, their growth could lag compared to private players.

Thus, on the risk-return spectrum, PSU Equity Mutual Funds find their place at the higher end of the risk-return spectrum. Only if you’re a very high-risk taker and can recognise macro trends, you may invest a small portion (around 5-10%) of your total portfolio to such sector and thematic fund keeping a time horizon of around 7 years or more (as value unlocking could take time).

Be smart, yet a thoughtful investor.

Happy Investing!

This article first appeared on PersonalFN here