Musings with Analyst – December, 2022
How Do We Select Pure Plays?
In this edition of Musings with Analyst, we talk to you about how Windmill Capital selects Pure Plays for our smallcases.
Before starting off, let’s understand what does pure play mean, in the context of building a smallcase? Pure play is essentially the foundation or base of the smallcase, upon which the entire structure is built. Simply put, pure play determines the kind of sectors and stocks that will be considered for inclusion in the smallcase. To set the context straight, pure plays are relevant for non-model and tracker smallcases. Since model smallcases are a systematic combination of fundamental and technical filters, there is no concept of pure plays for them. They remain sector & stock agnostic and follow a simple rule based selection and rebalance process. Let’s deep dive into specific examples of a non-model and a tracker smallcase to better understand the concept.
In the following illustration we shall take two smallcases – Brand Value (Non-model smallcase) and Infra Tracker (Tracker smallcase).
This is one of the most broad based smallcase in our offerings, having 15 stocks from as many as 13 different sectors. The reason behind this is that since the rationale of the smallcase is to get India’s biggest brands under one roof, we turn sector agnostic to some extent, unless there is a structural issue with the sector.
You see, pure play is majorly divided into 2 steps –
a) Assigning of sectors which are relevant to the theme of the smallcase
b) Selecting the final list of stocks from these sectors which shall be considered for inclusion.
As far as the first point is concerned, the respective analyst goes through the entire sector list and assigns those sectors which are congruent with the theme. We use the GICS Sector/Industry classification to shortlist the sectors. However, GICS classification can be restrictive in nature. For instance, Financials is a GICS sector which includes banking companies, insurance companies, financial exchanges, NBFCs, digital payment platforms, and others. You see the difference, right? So we go a step further, break down the GICS classification and call them –- smallcase prop sectors that do a significantly better job of mapping companies to sectors.
Well, the next step is to study all the companies that are coming in as part of the sectors marked green for the smallcase and to determine the relevance of the company to the theme. Again taking an example, FMCG companies are a pure play for Brand Value. And we get companies ranging from HUL, Dabur, Britannia Industries, to Zydus Wellness. Now, the key here is to gauge brand aspiration for these companies’ products. Almost goes without saying that HUL has a brand aspiration worthy product portfolio, which is not exactly the case with Zydus Wellness. Hence, we’ll leave the latter out from the run. Similarly, this is done on the back of geographical revenue contribution numbers as well. Tata Motors is a classic example. Tata Motors is an exceptionally strong brand amongst Indian consumers, however the company derives ~80% revenue from outside India. Therefore, even though it has a strong brand in the country, revenue dependence outside the country makes it a theme unfit.
In the case of tracker smallcases, the sector coverage is concentrated and naturally so, as they track a particular sector. However, few sectors like infrastructure usually have a whole host of sub-industries which need to be accounted for while managing the smallcase.
The Infra tracker is one such portfolio, wherein the sector coverage is spread out. We have construction companies, cement & machinery companies, port players, electrical equipment businesses, and others. The objective here is to include all such companies which are a part of the infrastructure ecosystem.
It is extremely intuitive if you come to think of it. In order for you to build an airport for instance, you would need construction engineering, building products and materials, industrial machinery, electrical equipment, and so on.
Timely Updates – Pure Play
At Windmill Capital, besides just setting up processes, we keep updating them, in order to maintain relevance. So is the case with pure plays. Once in every six months, we pick the pure play list of our smallcases and individually refresh the list for each one of them, so that we don’t miss out on any new company or sector that might be a good consideration for the smallcase.