Launched in October 2019, the ICICI Prudential Commodities Fund (IPCF) has done exceedingly well. In the past one year alone, it has given 172 percent returns, according to data from Value Research. Will the scheme sustain its good run and should you invest in the fund?
IPCF is a thematic fund that invests in commodity stocks. These are cyclical in nature. At present, there are four such funds.
The scheme invests in the shares of paper, cement and cement products, metals (such as ferrous metals, non-ferrous metals, minerals & mining), chemicals, fertilizers and pesticides segments. A portion is also allocated to other commodity related sectors, including oil and gas. As per its mandate, it invests at least 80 percent of its corpus in the commodity sectors. Sankaran Naren and Lilit Kumar manage the fund.
How has ICICI Prudential Commodities Fund done well?
Thematic funds make money when the sectors they invest in do well. But their real success comes when fund managers identify the right phase of the cycle to buy the shares. IPCF was launched when the metals sector cycle was at the bottom. That is why it loaded up on metal stocks (more than 40 percent of the scheme’s portfolio was invested in them). Again, in March 2020, when markets fell sharply after the global COVID-19 pandemic was declared, Naren and Kumar bought more metal stocks and took the sector’s exposure to nearly 60 percent of the scheme’s corpus.
Hindalco Industries (180 percent one-year returns), Jindal Steel & Power (365 percent), Vedanta (187 percent) and Steel Authority Of India (275 percent) propelled the scheme’s performance.
“The metals sector emerged as one of the top performers of 2020 supported by sharper improvement in demand after prolonged weakness seen in 2018 & 2019,” says Neeraj Chadawar, Head-Quantitative Equity Research, Axis Securities. Further, the weakness in the dollar index has supported commodity prices. In the last one year, the dollar index is down by 9 percent, while during the same period the global commodity index is up by almost 48 percent he adds.
“Our investment style is more tilted towards being counter-cyclical. Our portfolio is basically heavy on metals and mining, small-caps, companies with debt, and is a concentrated holding,” says Lalit kumar.
A cyclical industry can be one which follows the trends in the economy. They provide higher returns in periods of economic boom or expansion and vice versa. Counter-cyclical industries are those that do well in economic downturns. It is worth noting that the Nifty 50 TRI gained only 5 percent year-to-date, while the Nifty commodities TRI has risen around 25 percent.
“In a countercyclical investment style, small-caps become very important because if you catch small cap names at the bottom of the cycle, they generate a lot of alpha,” adds Kumar. As per the latest portfolio of IPCF, the allocation to large, mid and small-cap stocks was 33 percent, 13 percent and 46 percent, respectively.
Will the outperformance continue?
Kumar believes that there is room for more upside in the commodity stocks going ahead. He says China, which is the global leader in manufacturing commodities is nearing its end, as it wants to reduce its carbon emissions. In other words, it wants to reduce its activity in pollution-generating industries, like steel and aluminium. This gives an opportunity to Indian companies.
Many metal and mining companies have high levels of debt. Rising commodity prices will lead to higher profits. Kumar believes this would bring down their debt levels over the next 2-3 quarters.
Also, global growth plays an important role in demand and pricing of commodities. Rusmik Oza, Head of Fundamental Research at Kotak Securities says “the global push for infrastructure development by countries such as the US, China and India could keep commodity prices at elevated levels. The supply constraints and higher raw material prices used for making commodities could also help in prices sustaining at higher levels.”
Should you invest?
Though thematic funds can have bouts of high returns, they are also among the riskiest. Also, commodity stocks demonstrate higher volatility as they are influenced by multiple global as well as domestic factors. Over the last 10 years, the Nifty commodities index outperformed the broader indices only three out of 10 times.
Being a thematic fund, it is also concentrated with just about 26 stocks (as of March 2021). More allocation to small-cap stocks increases its riskiness.
Chadawar of Axis Securities cautions investors about metals and other commodities prices having risen sharply on expectations of a sharp global recovery. Any reversals on this front will create a pressure on elevated prices that will be risky in the near term.
The scheme has been around only for 20 months. It’s best to stay away from it till it demonstrates consistent performance across market cycles over longer timeframes.