How to Pick Stocks Using Mutual Fund Portfolio Fact Sheets

Many times, we become too lazy to follow the process of picking stocks and end up replicating what others are buying instead.

It's not for no reason that investors track the portfolios of super investors such as Rakesh Jhunjhunwala, Ashish Kacholia, Dolly Khanna, and the like...

Deciding what to invest in is a big task. There are thousands of stocks to choose from.

That is why many investors follow the approach of looking at what the top mutual funds are buying and selling and then act upon it.

The stock selection of certain fund houses is as per their investment processes and systems. At times, it's even as per the whim of the fund manager, if the fund house is star-fund manager driven.

We all know the importance of having a process and a system in place when it comes to investing.

Mutual fund fact sheets are said to be one of the best guides that contain all information for analysing the fund in question.

The fact sheet allows an individual to be aware of the latest key facts of a fund. Mutual fund fact sheets contain the basic information, performance of the fund, stocks that are held by the fund, and more important details, along with key ratios.

This begs the question: Can we pick stocks for our portfolio using the mutual fund portfolio fact sheets?

In a word, YES.

If looked at carefully, then it's surely possible. You can pick stocks using these fact sheets. But blindly mirroring what fund houses are doing, may not be the best approach.

Here are some pointers on how you can pick stocks using mutual fund portfolio fact sheets...

Check for common stocks in mutual fund schemes

For starters, make a list of the best performing mutual fund schemes. Or India's top mutual fund houses.

You may choose mutual fund schemes whose assets under management (AUM) is actually performing. In other words, select those schemes that displayed an impressive performance track record in both - bull and bear markets.

Compare the stock portfolios of these mutual fund schemes/fund houses and filter out the stocks which they have in common.

That would give you a sense of which stocks mutual funds are bullish on at the moment as well as how they pursue opportunities across sectors or themes.

When so many fund managers are betting on the same stock, it perhaps signals that the stock is riding multiple tailwinds and would possibly be a good investment. That said, don't forget mutual funds also have their share of losses when picking stocks.

By checking the top holdings of some of the best fund houses in India, both large and small, you'll notice that ICICI Bank, HDFC, Infosys, Reliance, and SBI are their top holdings by value.

Most fund houses have some of these stocks in common. And these stocks are considered as the best way to play the India growth story.

No wonder HDFC (9.9%), Infosys (12.8%), ICICI Bank (28.2%), and SBI (12.9%) have high mutual fund exposure.

All these stocks would usually show a stellar performance over a period of time and turn the tide even in volatile times.

So, it's that simple? You wish.

While this seems like an easy way, an investor should note that there are certain risks.

It is difficult to gauge what the fund manager had in mind when he/she took exposure to a particular stock. The fund manager might have bought that stock at a certain price, which is not comparable to the current market price.

Also, the information comes delayed to a normal individual like you, dear reader. This is especially important when it comes to selling.

What if the mutual fund has already sold a major stake in the stock? That information might get to you a month later when it mandatorily discloses its portfolio holdings.

While tracking mutual fund fact sheets and their activity is one of the best way to pick stocks, it's not the ideal one.

Check for allocation

If it is not a sector or a thematic fund, a mutual fund would be diversified across sectors. Moreover, it may hold different set of stocks from the respective market capitalization segments.

You need to check, which are the top-10 holdings of the respective scheme and their proportion to the overall equity portfolio. If the top-10 holdings comprise more than 50% of the overall equity portfolio, it could be safe to infer that fund is highly betting on the top-10 constituents and holding a kind of concentrated portfolio.

So. it's better to check what percentage of stake they are allocating to a particular stock.

An aggressive fund manager may have a high concentration among fewer companies and sectors. This may not be appropriate for investors seeking diversification.

One more aspect to be looked at is whether a particular stock is held for several months. This would give you a sense of conviction and consistency of the fund manager's stock picks.

Too much churn in the stock picks (new names every other month) indicates that the fund manager could be punting or indulging in momentum play rather than investing.

Check the fund manager's credentials

Fund managers invest your money as per the asset allocation of the scheme. Mutual fund factsheets provide details of the fund managers including the various funds they manage.

Understanding the expertise of a fund manager may help in selecting stocks.

Why? Because you get to know their investing style, experience, and research at their hand.

So you should check how much skin in the game a fund manager has and his/her track record.

But wait! There's a big downside that's often ignored

While individuals may be tempted to use the best buy list with the help of mutual fund factsheets, it could leave a few gaps.

The stocks that fund managers pick don't always apply for a long-term approach. Every year, they remove a few stocks and add others. In short, they could be in indulging in momentum play to generate wealth for their investors.

Thus, when a stock is removed, it should ring alarm bells. It does not necessarily mean to sell your holding in it.

They could also take some exposure to stocks that are available at hefty valuations. As a result, their stock selection can prove to be a disaster at times.

As per a leading financial daily, RCom was picked up by 74 new funds between October 2006 and 2007, with a total mutual fund investment of Rs 44.7 bn. We all know what happened with RCom.

There are other instances too...

Like when the realty sector was booming, stocks such as DLF, Unitech, Parshvnath Developers, and Ansal Properties found place in mutual fund portfolios. All these stocks have either disappeared or are trading well below their peaks.

Hence, it's inappropriate to blindly mirror what fund houses are doing. You should take mutual fund exposure to stocks with a pinch of salt.

Ideally, the stock selection of an investor should be based on his/her risk profile. This would help zero in on whether to hold stocks from large-cap, mid-cap, small-cap, or the micro-cap spaces.

Happy Investing!

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such.