Tata Mutual Fund has launched Tata Business Cycle Fund, an open-ended equity product with an investment theme based on economic cycles. The new fund offering (NFO) will close on July 30, 2021. This is the third thematic product of this type in this space after L&T Business Cycles Fund (launched in August 2014) and ICICI Prudential Business Cycle Fund (January 2021) .

Decoding cycles

Classic economic cycles are identified as recurring, alternating phases of expansion and contraction in a large number of economic activities.

By navigating economic cycles with precision, an equity fund can become an investment vehicle in any weather.

The Tata Business Cycle Fund aims to deploy the business cycle approach to identify economic trends and invest in sectors and stocks that are likely to outperform. Historically, some evidence suggests that the nature of stocks that go well in one cycle changes in another. In the boom cycle, financials, real estate, consumer discretionary, capital goods and industrials outperformed.

In a downturn, utilities, pharmaceuticals, consumer goods and IT are doing well. During the recession, utilities, pharmaceutical companies and FMCGs oriented towards large caps outperform. Autos, metals and mining, large financials and IT are doing well during the recovery phase. Thus, investing on the business cycle theme allows a fund to consider aggressive sectoral over / underweight options relative to other funds diversified in different economic phases.

Nuts and bolts

The Tata Business Cycle Fund will invest at least 80 percent of the portfolio according to the theme of business cycles and the remainder in other stocks, debt instruments, Gold ETFs, REIT and InvIT. The fund has the ability to invest abroad, which can prove useful in times of national recession. He has limited leeway to make aggressive money calls. In times of recession or global crisis, the program may also consider investing in gold ETFs, as it can provide some insulation against downside risk in the equity portfolio.

The fund seeks to identify business cycles with two frameworks, one is the macroeconomic framework based on the different macroeconomic indicators and sentiment indicators and the second is to identify sectors, which can sometimes be more important than the macroeconomic cycle.

Portfolio parameters such as market capitalization allocation and number of stocks in the portfolio will be based on the stage of the business cycle. For example, in a downturn, there will be more large caps, fewer stocks and sectors. But when the economy is expanding and growing rapidly, the allocation to large caps would automatically be lower and the number of stocks would be higher. The portfolio churn rate will depend on the frequency of cycle changes.

Our conversation with Tata MF indicates that the fund will not go below a certain percentage of large caps. He will tend to have a flexi-cap type allocation. L&T Business Cycles Fund currently owns 45 percent large caps, while 54 percent are mid and small caps. The ICICI Prudential Business Cycle Fund owns 67 percent large caps and 17 percent mid and small caps, while about 4 percent are US stocks.

There are a few things that investors should note before investing in thematic funds. First of all, any thematic fund should be part of your satellite portfolio. Second, the timing of entry and exit matters when it comes to sector calls. Although investing by business cycle is presented as an all-season theme, the actual performance of the portfolio should be good, regardless of the sophistication of a fund’s strategy.

Third, accurately identifying business cycles is a difficult task, and repeating the same thing is even more difficult. This is where the experience of the fund management team will be tested. For example, L&T Business Cycle Fund has underperformed its benchmark over periods of three and five years. Fourth, since these funds take aggressive over / underweight calls from the sector, the risk / reward ratio is different from that of common equity funds.

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