HDFC Mutual Fund also proposes to use derivatives for the purpose of hedging the portfolio against "anticipated moves in the equity markets". It has been decided to limit the value of derivative contracts outstanding to 20 per cent of the outstanding net assets of a particular scheme. Sanjoy Bhattacharyya, who has worked with Crisil and Icra and was with Warburg prior to joining HDFC mutual fund, will be the chief investment officer while Iqbal Jugari, who was earlier with Zurich India AMC, will the company secretary and compliance officer.

The managing director of HDFC Asset Management Company Ltd, Milind Barve, says the need to have an equity sales strategy was underscored by the recent market crisis during February/April this year when several mutual funds which had a large exposure to select technology stocks took a big hit when these stocks came down crashing on the bourses, bringing down the NAVs of these schemes by an average of 40-50 per cent.

The investment strategy of HDFC mutual fund revolves around five tenets laid out in its offer document. It intends to take advantage of capital appreciation as "there is substantive empirical evidence to suggest that equities provide the maximum risk-adjusted returns over the long term". So tenet one says investments will be made with a long term perspective.

The fund's approach to valuations of companies would be similar to making an investment in a business. Tenet two says "Investments confer proportionate ownership" and the issues on which the AMC would focus are growth opportunities, sustainable competitive advantage, industry structure and margins and quality of the management.

Tenet three says: "Maintain a margin of safety". The intrinsic value of stocks would determine their "relative attractiveness". The fund would prefer to pick stocks which are quoting at a discount to market price "in an effort to preserve capital and generate superior growth".

The equity portfolio would be closely monitored to reflect the "impact of changes in business and economic trend as well as investor sentiment". Short term market volatility, however, is not expected to "influence the decision to own fundamentally strong companies". Tenet four says: "Maintain a balanced outlook on the market". The fund intends to follow a pro-active selling strategy to take advantage of alternative investment opportunities which offer "superior returns". The offer document specifies that "the decision to sell a holding would be based on either the anticipated price appreciation being achieved or being no longer possible due to a change in fundamental factors affecting the company or the market in which it competes".

Derivatives, at present restricted to equity index futures only, will be used to protect capital and enhance returns. It could be used to increase percentage investments in equities for the purpose of enhancing returns on idle cash pending investment in equities.Index futures could also be used to decrease percentage investment in equities. In the case of a pending outflow of funds from a scheme or where a negative view of the market is taken, the fund manager may take a short position in index futures.As the price of the futures contracts is expected to move in the same direction as the index, the value of a short position will increase if the index falls.

This strategy would reduce the market risk and volatility of the portfolio.The mutual fund also proposes to use stock and index options as and when they are available in the market as a portfolio protection tool.