Bharat 22 ETF FFO – Should you Invest?

Bharat 22 ETF opened its FFO (Further Fund Offer) starting June 19th, 2018 for anchor investors followed by other investors from June 20th to 22nd. link

Wait, Back up a little. ETF? Bharat22? FFO? And most importantly, should you invest?

Exchange Traded Funds and how they differ from Mutual Funds

ETFs or Exchange Traded Funds are baskets of securities traded real-time on exchanges, just like individual stocks. They differ from mutual funds in two key ways:

  1. Structure: An investor buying ETF units is usually buying pre-built blocks of shares created by the asset manager or from other investors. With a mutual fund, the units are created as money flows in and being sold when investors ask for their money back
  2. Liquidity: The counterparty (the other side) when you buy or sell units of a mutual fund is always the Fund itself (the AMC managing the fund). The trade happens at Net Asset Value (NAV) which is declared by the fund at the close of each trading day. ETFs can be bought from the ETF or from other investors holding units of the ETF. Prices of ETFs, therefore, change real-time with their underlying constituents
The Calm Investor | What is an ETF

A more elaborate comparison of mutual funds and ETFs here

What is the Bharat 22 ETF

The Bharat 22 ETF is an ETF combining a specific set of securities with pre-defined portfolio allocation. Table below shows the 22 stocks making up the Bharat 22.

No.CompanySectorWeight %
1National AluminiumBasic Materials5.13%
5Coal IndiaEnergy3.72%
6State Bank of IndiaFinance7.25%
7Axis BankFinance7.82%
8Bank of BarodaFinance1.22%
9Rural Electrification CorpFinance1.18%
10Power Finance CorpFinance0.99%
11Indian BankFinance0.21%
12ITC LtdFMCG14.26%
13Larsen & ToubroIndustrials16.92%
14Bharat Electronics LtdIndustrials3.48%
15Engineers India LtdIndustrials1.44%
16NBCC (India) LtdIndustrials0.68%
17Power Grid CorpUtilities7.73%
18NTPC LtdUtilities7.07%
19GAIL India LtdUtilities4.25%
20NHPC LtdUtilities1.08%
21NLC India LtdUtilities0.27%
22SJVN LtdUtilities0.23%

You might have noticed they all have significant holdings by the Government of India. The FFO is a continuation of the Government’s disinvestment strategy to reduce its ownership in PSUs to raise funds.

Is the Bharat 22 ETF a good investment?

It’s not the best portfolio around. It’s also not the worst portfolio around.

Unexciting in the short term

Chart below shows the performance of the Bharat 22 ETF from its inception till now. Over the little more than six months since it’s launch in November 2017, the Bharat 22 ETF has underperformed both the NIFTY and the NSE 500. Note how it beat both indices for the first two months of its existence before correcting sharply.

The Calm Investor | Bharat22 ETF Performance

Finding an inference based on six months of data would be, well, poor decision-making. Especially since almost all stocks that make up the Bharat 22 ETF have been around for much longer than the last six months. So, we do a backtest that compares how the basket of stocks forming the Bharat 22 would have done against the NIFTY. (This backtest was done in November 2017)

Competitive in the long term

The Calm Investor | Bharat22 Returns

Overall, the stocks in the Bharat 22 ETF acquit themselves reasonably well compared to the NIFTY but it would not have been smooth sailing. More results from the backtest in this post from Nov 2017: Is Bharat22 ETF a good investment?

Another way to look at the stocks in the Bharat 22 ETF is how have they grown earnings and how much of that has translated into price growth.

The Calm Investor | Bharat 22 EPS Growth

Of course, no one metric gives you the complete picture so you have to look at what it took to generate those earnings – additional assets employed, whether those assets were funded through internal accruals or by issuing equity and/or debt, and if you dare, to predict how their earnings might (de)grow in the future.

You could even create your own modified version of the ETF. Maybe you think state-owned banks are a bad bet based on all that’s been going with the likes of PNB or the impact of Oil prices and political levers on prospects of Oil Marketing & Distribution companies or the inability of Utilities to provide returns exceeding their cost of capital.

Or you could concede that we suck at forecasts and stick to the time-tested principle of mean reversion. Given past performance and generally unsexy nature of the constituents, there is merit in considering that the very fact that these stocks don’t figure on expert panel buy recommendations might make them lower risk contrarian bets.

Note: This is not a recommendation to buy the Bharat 22 ETF or its constituents.

What do you think?