Weekly Musings – NFO Pick (UTI Innovation Fund)

3 Oct 2023 , 10:19 AM

The fund will look to pick cutting edge companies in emerging growth areas like artificial intelligence, cloud, green energy etc with the objective of generative alpha over the long term. The bottom line is that innovative companies take time to move from a good idea to good economics. That is why the approach to investing in such a fund should be long term. Investors must ideally look at a time frame of 7-8 years to leverage the full benefits of such a portfolio.

Needless to say, it will be a high risk portfolio for several reasons. Firstly, high technology and cutting edge companies also run the risk of rapid obsolescence. Secondly, this is a thematic fund with chunk of the corpus invested in such cutting edge companies. Lastly the regulatory environment and the global equations have a deep impact on such stocks. That is something investors must bear in mind before investing in the UTI Innovation Fund. The NFO of UTI Innovation Fund has opened on September 25, 2023 and will close for subscription on October 09, 2023.

Understanding the present wave of innovation

To be fair, innovation nis nothing new, but has been happening through the ages. It is just the form of innovation that has kept changing. For instance, in the early part of the 20th century, innovation took the form of electricity, chemicals and the internal combustion engine. In the 1970s, innovation took the form of petrochemicals, electronics, aviation, and space research. In the post 1990s, innovation took the form of the internet, software, biotechnology, and genetics. Now, in the latest round of innovation that has been going on for the last 8-10 years, the focus of innovation is on sustainable energy, green technologies, big data analytics, cloud computing, and industrial IOT (internet of things). It is in this latest wave of innovation that the UTI Innovation Fund will focus on.

Has Indian economy participated in the new innovation in a big way. We can look at some statistics as a proxy. Since 2016, India has improved sharply on the Global Innovations Index as well as in the Economic Complexity Index. India has the third largest start-up ecosystem in the world after the US and China and has produced 73 unicorns in the last 30 months. Private innovation funding in India has been dominated by technology, sustainability, and the consumer space, with PE funding relatively healthy even in a tough environment. India is already in the top 5 countries in terms of real time transactions and digital payments. Above all, India’s customer funnel via the internet ecosystem is among the best in the world.

Key trends in innovation in the Indian context

Before we get into the specific strategy of the fund, it is essential to understand some key trends in innovation that are visible in the Indian ecosystem. Here is a sampler.

• Ecommerce penetration is still quite low in India as of 2021 at 7%, compared to 22% in the US, 27% in China and 31% in the UK. In India, the ecommerce demand in mobiles, appliances and apparel has grown while health and grocery remain very low.
• There are several online pockets where India has low share. Outside food consumption is low at 8% compared to 42% in China and 47% in the US. The ratio of online food delivery users in India is just 11% compared to 53% in China and 47% in the US.
• However, India has shown extremely good traction in terms of the number of SAAs companies or in terms of the number of companies in India in the deeptech space like artificial intelligence, machine learning and IOT.
• Digital advertising spends in India are just about 29% as a share of total ad spends. In comparison, the ratio is 82% in China, 77% in UK, 64% in the US; while the global average itself is at around 63%.
• India’s share of digital food tech and digital healthtech is just about 4% and 1.5% respectively. The potential for growth is huge in terms of healthcare with reference to consultation, pharmacy, diagnostics, and wellness.
• One big opportunity that the fund is looking is the global chemical supply chain shifting substantially to India. India’s share of the global chemical industry is just about 3.5% today, but likely to grow to 12% by the year 2040, even amidst big demand spike.
• The last big opportunity is in energy. Renewables capacity stands at around 165 GW today, but that is likely to increase to 506 GW of renewable capacity by the year 2030. India expects the emissions intensity of GDP to reduce by 45% by the year 2030.

In a nutshell, the opportunity matrix I the next 10-15 years is huge and that is the space that the UTI Innovation fund seeks to tape effectively.

Next generation edge through UTI Innovation Fund

The UTI Innovation Fund will adopt an organized and systematic approach to stock selection, being a highly complex and uncertain industry. However, the opportunity cannot be denied. Here is how UTI Innovation Fund plans to de-risk the stock selection process.

• The financial criteria will be based on operating cash flows and ROCE ratings. The OCF rating will be based on the number of years of positive cash flows with only companies with 5 years of positive cash flows getting the top ranking.
• On the ROCE front, the fund will classify companies based on ROCE bucket average of last 5 years. The top bracket will be companies that have maintained ROCE of above 18% for the last 5 years and the next rung with be companies with 10% to 18% ROCE.
• The fund has an investment universe of 370 companies which will approximately cover 93% of the market cap of the Nifty 500 companies. It will be a flexi cap approach with exposure across large caps, mid-caps, and small caps for size diversification.
• Its investment strategy will be focused on Innovation, Growth and Quality. Under the Innovation factor, the fund will focus on companies that use innovation to enhance productivity, emerging tech companies and early adopters of new technologies or innovative processes that can disrupt the industry.
• Under the Growth factor, the fund will focus on companies that demonstrate track record growth and also those with significant potential for growth. Under the Quality header, the fund will focus on market leaders, robust business models, entry barriers, network effects and, above all, corporate governance standards of the company.

The fund is of the view that a combination of innovation, growth and quality can create a virtuous cycle of long term wealth creation for investors.

Key highlights of the UTI Innovation Fund NFO

The UTI Innovation Fund NFO will adopt a flexi-cap approach and look at companies meeting their criterial of innovation, growth, and quality across the market cap spectrum.

• The UTI Innovation Fund NFO opened for subscription on September 25, 2023 and will close for subscription on October 09, 2023, both days inclusive. The allotment date for the fund is October 13, 2023 and the scheme will reopen on October 18, 2023.
• It is an open ended fund, with an objective of medium to long term capital appreciation. It is best suited to investors with a higher risk appetite and a time horizon of 5-7 years at least. It has the broad equity risk and also the thematic risk embedded in it.
• UTI Innovation Fund is a combination of large cap, mid-cap, and small cap stocks with a flexi cap approach to allocation. It will ensure that at least 80% of the corpus of the fund is invested in equity and equity related instruments at any point of time.
• The stock selection of the fund will be based on the 3 themes of innovation, growth, and quality. Within these themes, the fund would be agnostic to the capitalization but would be rigid about the bucketing of the stocks into various classes based on its operating cash flows (OCF) rankings and the return on capital employed (ROCE) rankings.
• The UTI Innovation Fund performance will be benchmarked to the Nifty 500 TRI index. TRI refers to the total returns index and it benchmarks against returns based on dividends and capital appreciation to give a more appropriate picture on whether the fund has outperformed the benchmark or not.
• There are no entry loads in India as per SEBI regulations. However, there will be an exit load of 1% if the fund is redeemed or switched out within 12 months of the allotment date. There will not be any exit load if the fund is held beyond 12 months.
• NFO subscriptions in the UTI Innovation Fund can be made in minimum lumpsum parcels of Rs5,000 and SIP parcels of Rs1,000 and both investments can be multiples of Rs1 thereafter.
• The UTI Innovation Fund will be managed by fund manager, Ankit Agarwal, and his team.

The UTI Innovation Fund will be a true to label, innovation fund. It is ideal for investors seeking participation in emerging technologies, willing to take additional business risks and with a wating period of 5 to 7 years at the very minimum. It would be preferable if the investors participate in the fund through the SIP route to enhance the benefits of rupee cost averaging over a period of time.