For the Tata Equity P/E und to succeed, the fund manager needs to consider not only the low P/E ratios, but also bank on intense research and sound risk management techniques to help identifysuitable stocks.

May 17, 2004 will go down in history as the worst suffered by the equity markets. Markets declined by as much as 800 points in a matter of points to only retreat marginally. Even though the decline in the indices was steep and unjustified, it was also an aberration as markets have been choppy for sometime now.

With investors already confused about where to put their money, in a volatile market, the decision becomes even tougher. To take advantage of the current scenario, Tata Mutual Fund is launching the Tata Equity P/E fund as it feels that markets have come down considerably and a lot of stocks are available at very good bargains.

Tata Equity P/E fund (TEPEF) is an open-ended equity fund, which will aim to identify undervalued shares with respect to the BSE Sensex and invest a bulk of its portfolio in those shares. The investment philosophy of this fund will be to invest in stocks that have a P/E ratio lesser than the BSE Sensex. Such stocks will form at least 70% of the portfolio and the rest 30% of net assets can either be fully invested in stocks that do or do not satisfy the P/E criterion or of the 30%, up to 20% can be invested in debt and money market instruments.

The fund will use a trailing P/E ratio and not the forward P/E ratio to identify stocks that are undervalued. P/E ratio is calculated by dividing the market price of a share by the earnings per share (EPS) and indicates how much an investor is willing to pay for a share for every rupee of its earnings.

The P/E ratio is calculated in two ways: forward P/E is calculated by dividing the last traded market price of the stock by the projected EPS for the current or future financial year and the trailing P/E is calculated using the actual reported EPS for the immediately previous completed financial year. The fund will use the trailing P/E and not the forward P/E as forward P/E is based on estimates and therefore uncertain.

Investing just on the basis of P/E ratio may not be the best investment practice. For this reason, after a list of stocks is identified, various other factors will be considered before taking a decision. These factors will be management competitiveness, business competitiveness, growth prospects and other fundamental parameters. Only after a careful evaluation of all factors will an investment decision be taken. This means that the P/E ratio will become the elimination factor and also force the fund manager to exit after the stock has risen considerably when it starts trading at P/E levels greater than the BSE Sensex.

There is another P/E ratio fund in the market by Franklin Templeton. The fund is called FT India PE Ratio fund. This fund is different from TEPEF in a lot of ways. FT India PE Ratio fund is an open-ended strategic asset allocation fund and the P/E ratios of NSE Nifty are used unlike the BSE Sensex P/E ratios used by TEPEF.

FT India PE Ratio fund uses the Nifty P/E to find out how overvalued or undervalued the equity market is and accordingly rebalance the asset mix in equity, debt and money market instruments. The equity component of this scheme replicates the Nifty and the fund can only invest in stocks that make up the NSE Nifty index. The allocation to equities or debt is based on P/E ratio of Nifty. Lower the Nifty P/E, more the allocation to equities and vice versa.

The Tata Equity P/E fund is based on a different investment style than the already existing P/E fund in the market. This fund will be most appropriate at times when the markets turn extremely volatile. When there is uncertainty in the markets, not only is the investor apprehensive of taking a decision, so are the fund managers. At these times, if high quality, well-managed, globally competitive companies are bought at appropriate valuations, they can outperform the market.

The challenge before the fund manager is intense research and sound risk management techniques to help identify suitable stocks.

While the P/E ratio may be one of those many factors in taking a decision but it is an important decisive factor. We only hope that the fund manager is not influenced by the low P/E ratios but also looks into all other factors, as promised. This will help the fund identify value stocks both in a bull as well as a bear market.

The IPO of the fund opened on May 17, 2004 and will close on June 15, 2004.