These 5 Mutual Funds Are Betting Big on Defence Stocks

Given the strained relationship India shares with its two neighbours--China and Pakistan---and the chances of any possible aggression in the future amidst escalating geopolitical tensions, defence as a sector plays a crucial role.

For years, India has heavily depended on Russia for defence supplies and technology transfers. However, given that Russia is facing a huge setback with global sanctions imposed (due to its invasion of Ukraine), overreliance on the old ally could prove costly for India.

Thankfully, the central government has taken proactive steps to make India Atmanirbhar or self-reliant in the defence sector in the past few years. And in view of the escalating geopolitical tensions after the Russia-Ukraine war, it appears that this drive for Atmanirbharta or self-reliance is likely to continue and accelerate further.

The geopolitical situation isn't getting better, the Ukraine-Russia war continues. And recently, after the sinking of its naval ship, Moskva, in the Ukraine war, the Russian state television saying, presenter Olga Skabeyeva made the chilling statement, "what it's escalated into can safely be called World War III."

The aforesaid backdrop has brightened the prospects for defence as a sector back home. Let's see how bullish mutual funds are on some of the listed defence sector companies.

According to the latest shareholding pattern of listed defence sector companies, MTAR Technologies, Bharat Electronics, BEML, Bharat Forge, Mishra Dhatu, Bharat Dynamics, and Hindustan Aeronautics are among the favourites of the Indian mutual fund industry.

Furthermore, the IPO-bound LIC holds an 8.63% share in Hindustan Aeronautics, 6.25% in Bharat Dynamics, and 1.28% in Bharat Electronics as of Q4FY22.

The analysis of the portfolios of all diversified equity mutual fund schemes reveals many of them are betting big on the defence sector.

We found that 120 diversified equity funds held at least one defence sector company in their portfolios. However, only 9 of them had an exposure of more than 5%, while in all, the portfolios of 63 schemes had an exposure of 2% or less.

Interestingly, the majority of schemes having more than 5% exposure to defence companies were among Value Funds, Midcap Funds, and Focused Funds.

The likely reason for Value Funds, along with some Dividend Yield Funds having high exposure to defence stocks could be the dominance of PSUs in the defence sector.

The average single stock exposure has been 1.4%, with a maximum exposure of 4.4%. This goes to show that most of the diversified equity mutual fund schemes have been holding defence sector stocks as part of their satellite holdings and hoping to encash the possible re-rating of the sector.

At a fund house level, HDFC Mutual Fund, Aditya Birla Sun Life Mutual Fund, and Kotak Mahindra Mutual Fund have the highest exposure to defence stocks, going by the portfolio holdings of diversified schemes.

Here are 5 mutual fund schemes with high exposure to defence stocks...

Scheme #1: HDFC Mid-Cap Opportunities Fund

Launched on 25th June 2007, HDFC Mid-Cap Opportunities Fund aims to provide long-term capital appreciation/income by investing predominantly in midcap companies.

As of 31^st March 2022, the weightage of equity assets in its portfolio is 96.2%, with a total of 65 stocks. Other than mid-cap companies, HDFC Mid-cap Opportunities Fund also invests 16% and 15% of its net assets, respectively, in large and small-cap companies. The remaining assets are the cash and equivalent assets to manage the liquidity needs.

Bharat Electronics was one of the top 3 picks of the fund as of 31^st March 2022.

The fund has been accumulating Hindustan Aeronautics for the past 6 months. From 36 lakh shares in October 2021, the fund's holding in the company grew to 57.5 lakh shares in March 2022.

Scheme #2: Mirae Asset Midcap Fund

Launched on 29th July 2019, the fund has the investment objective of providing long-term capital appreciation from a portfolio investing predominantly in Indian equity and equity-related securities of midcap companies. From time to time, the fund manager may also participate in other Indian equities and equity-related securities for optimal portfolio construction.

As of 31^st March 2022, Mirae Asset Midcap Fund holds 53 stocks in its portfolio. The fund has remained almost fully invested, with equity allocation weighting 99.7% in the portfolio. Other than mid-caps, the fund invests 28% and 6% of its total assets in large-cap and small-cap companies, respectively, as per its portfolio as of March 2022.

Mirae Asset Midcap Fund has taken a bullish stance on Bharat Forge and has been consistently increasing the stake in the company for the past 6 months. Currently, Bharat Forge constitutes a part of the top 5 holdings of the fund.

On the other hand, the fund has been booking profit at regular intervals in Bharat Electronics and instead betting on Hindustan Aeronautics-a stock that's been a part of its portfolio for the past three months.

Scheme #3: HDFC Focused 30 Fund

Launched on 17th September 2004, HDFC Focused 30 Fund aims to generate long-term capital appreciation/income by investing in equity & equity-related instruments of up to 30 companies.

As of 31^st March 2022, the fund held 94% of its overall portfolio in equities, with a total stock count of the portfolio was 29. While following a focused approach, HDFC Focused 30 Fund invests nearly 83% of its total assets in large-caps and the remaining in mid-cap and small-cap companies. Cash and cash equivalents assets accounted for the remaining portion of its overall portfolio.

HDFC Focused 30 initiated a fresh position in Bharat Dynamics by buying 4.75 lakh shares in February 2022. The fund added another 85,000 shares of Bharat Dynamics in March 2022. Likewise, the fund also hiked its stake in Hindustan Aeronautics.

Scheme #4: IDBI Dividend Yield Fund

IDBI Dividend Yield Fund was launched on 21st December 2018. The fund's investment objective is to provide long-term capital appreciation and/or dividend distribution by investing predominantly in dividend-yielding equity and equity-related instruments.

As of 31^st March 2022, the fund held 98.5% of its overall portfolio in equities with a total stock count of 38. The large-caps comprise a large portion (64%) of the portfolio while holding the rest of the equity portfolio in mid-caps and small-caps. The cash and cash equivalents to manage the liquidity needs are 1.5% of the overall portfolio.

Going by its holding trends, the fund has almost consistently held the Bharat Electronics, BEML, and Bharat Forge for the past 6 months, following a buy-and-hold strategy.

Scheme #5: Aditya Birla Sun Life Pure Value Fund

Launched on 27th March 2008, Aditya Birla Sun Life Pure Value Fund's investment objective is to generate consistent long-term capital appreciation by investing predominantly in equity and equity-related securities by following a value investing strategy.

As of 31^st March 2022, Aditya Birla Sun Life Pure Value Fund holds 64 stocks in its equity portfolio. Investment of the fund in equity assets accounted for 94.8% of the portfolio (comprising nearly 45% in large-caps, 28% in mid-caps, and 24% in small-caps). The remaining 5.2% of its portfolio is in cash and equivalent assets.

Aditya Birla Sun Life Pure Value Fund's holdings in Hindustan Aeronautics and Bharat Dynamics remained constant in March 2022. Nonetheless, the fund reduced its exposure to MTAR Technologies and Bharat Forge in March 2022 by selling 47,377 and 4,45,850 shares, respectively.

The Outlook for the Defence sector in India

The Defence Production & Export Promotion Policy (DPEPP) 2020 envisions the Indian defence sector to achieve a dual objective of self-reliance and exports through Public-Private Partnership (PPP).

Broadly, the goals of DPEPP 2020 are:

• Develop a globally competitive defence industry catering across the value chain

• Promote import substitution by taking initiatives through domestic design and development

• Encourage R&D and IP ownership

• Achieve a turnover of USD 25 billion (bn) in defence manufacturing and services which includes exports of USD 5 bn by 2025

The Indian government is likely to spend a massive USD 130 bn over the next 7-8 years on the modernization of arm forces. As part of that, Budget 2022-23 has allocated Rs 3.85 trillion to defence, and 68% of capital procurements will be met through domestic supplies. This may give a big boost to the indigenisation of defence procurement.

Moreover, 25% of the defence R&D budget will be allocated to industry, start-ups and academia.

Recently, the government released the third positive indigenisation list of 101 defence platforms and equipment. With this, 310 platforms and equipment are now on the list of import embargos. This is in line with India's long-term vision for the defence sector.

Diversified equity mutual funds are one of the best ways to benefit from India's growth story. However, ensure that you select the best and the most suitable mutual fund schemes for your portfolio.

Happy Investing!

Warm Regards,
Rounaq Neroy
Editor, Daily Wealth Letter