We have a structurally bullish view on Indian mutual funds and HDFC AMC offers all the ingredients to be the best play in the space.
We have a structurally bullish view on Indian mutual funds and HDFC AMC offers all the ingredients to be the best play in the space. Valuation is lofty, but strong earnings compounding should drive healthy returns, in our view. Initiate at OW. India’s total and equity mutual fund AUM to GDP was 13% and 6% as of FY18 vs. global averages of 62% and 35%. The share of equity mutual funds has been rising in India’s growing financial savings, and so has individual investors’ share in AUM. Longevity and predictability of growth are improving with strong growth in AUM from smaller cities and inflows coming via monthly plans.
We build in a moderation in net inflows from FY18 levels and modest asset appreciation. Given an improving Indian economy, we believe the risk of sustained outflows is low. Historically, a y-o-y drop in industry equity AUM has been driven either by a sustained drop in GDP growth or a series of negative events in financial markets. It leads with scale: It is the largest AMC in India in terms of equity-oriented AUM with a market share of 14.4%, higher in equity (ex ETF) at 15.7%.
Profitability – Equity (ex ETF) mix which is more profitable, was 50.3% vs. the industry at 40.8% as of July 2018. Hence, it is most profitable with a higher profit market share of ~18% (FY17) and FY18 PAT / AAAUM of 26bp. Strong individual investor franchise — as of July 2018, it had the highest market share of retail equity AUM (ex ETF) at 14.7% — and was second in MAAUM from beyond top 30 cities, at 12.2%. It has strong parentage, brand recall and experienced management.
We expect gradual sustained lowering of expense ratios over time by the regulator and rising pressure from passive funds. However, strong AUM growth, higher share of equity and operating leverage should help deliver 20%+ EPS CAGR for some time, in our view. Over FY18-21, we forecast EPS CAGR of 23%. Although the stock can be volatile, driven by monthly flows and market outlook, we believe that, unless there is sustained weakness, a P/E of 30-40x can be sustained due to structural factors, scarcity premium (also low free float) and a high dividend payout. Key risks: Sharp drawdown in markets, adverse regulation.