October 15, 2024

Dear Investors,

Since March 2023, the Indian equity market has experienced an impressive growth following
a 15-month pause after the strong bull run that began in March 2020, post-COVID lows. This
rise has been primarily driven by cyclical stocks, which saw a compounded annual growth
rate (CAGR) of 77% (or an 10x increase) from March 2020 to March 2024. During the same
period, quality stocks delivered a more moderate 30% CAGR (or a 3x rise). Prior to this, from
March 2014 to March 2020, cyclical stocks saw negative returns (-10% CAGR), while quality
stocks delivered an 8% CAGR. The recovery of cyclical stocks has been truly remarkable.
Looking at the performance over the last decade under the BJP regime (March 2014 – March
2024), surprisingly cyclical stocks have outperformed quality stocks with 10-year CAGR of
18% and 16% respectively. Interestingly, between March 2003 and March 2024—spanning
two decades—the CAGR for cyclical and quality stocks has been the same at 21%, despite
significant differences in their earnings quality, earnings growth, business risk and return on
equity (ROE) profiles. A detailed classification of these stock categories, along with further
analysis, is presented in the subsequent sections of this memo.
In the past twelve months (September 2023–September 2024), our flagship core portfolio
(SCP) delivered a 59.4% return (net of fees and expenses), the small-cap portfolio (SSP)
delivered a 31.9% return while our AIF (a blend of SCP and SSP) returned 55.1%. We also
introduced a large-cap oriented portfolio (SLMP) a year ago which delivered a 63% return over
the same period, thanks to the fund managers Satish Kothari and Kshitij Kaji. A comprehensive
analysis of long-term performance is included at the end of this memo.
One year and inception-to-date performance of various Sage One portfolios
70.0%
63.0%
59.4% 1 yr Since Inception 59.0%
60.0% 55.1%

50.0%

40.0% 36.7%
31.9%
29.4% 30.0%
30.0%

20.0%

10.0%

0.0%
SCP (Apr 1, 2012) SSP (Apr 1, 2019) AIF (1 & 2) (Sep 1, 2019) SLMP (Aug 24, 2023)

We remain committed to managing our assets responsibly and have set strict limits on each
strategy to avoid significant drag on returns due to excessive fund size. For example, we
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paused new fundraising for SSP at the end of 2022 upon reaching capacity. Our AIF – Scheme
2 was closed for new fund raise in January 2023. Despite these limitations, we are pleased to
report that our assets under management (AUM) have recently surpassed ₹7,200 cr,
supported by favorable market conditions and your continued trust. I cannot thank you
enough for the unwavering support and confidence you’ve shown over the past 12.5 years,
through all the ups and downs.
Markets Scaling All-time Highs
As markets continue reaching all-time highs, the issue of how to navigate through
overvaluation remains a common topic of discussion with diverse opinions. In my previous
memo, I shared valuation metrics for different market segments (by market cap) in relation
to their historical context and outlined our strategy for navigating such conditions. Not much
has changed since then. I also presented an analysis highlighting areas that were significantly
overheated, some of which have since corrected by 20-40% from their peak.
In late 2021, I had presented an analysis highlighting how corporate India’s balance sheets
and operating cash flow (CFO) had reached their strongest levels in history, even as markets
were similarly overvalued. I also detailed how small-cap indices had experienced crashes
every 2.5 to 4 years over the past two decades, with an average drawdown of more than 45%.
However, I believe that due to the strength of corporate balance sheets and CFO, following
the 2021 peak, small-cap indices corrected by only half of their historical average. They then
swiftly recovered those losses and reached all-time highs in a short period. Below is the
updated analysis for the largest 1,000 non-financial listed universe in India having 20-year
history.

FY24 FY23 FY22 FY21 FY20 FY19 Jan'18 FY17 FY16 FY15 FY14 FY13 FY12 FY11 FY10 FY9 Jan'08 FY7 FY6 FY5 Median

Weighted avg EV/CFO 19.8 16.4 18.1 18.4 15.2 24.9 22.7 17.3 16.2 16.9 14.3 15.2 17.4 19.3 14.6 12.7 25.9 18.1 20.7 12.3 17.4

Weighted avg PEx 28.3 23.9 24.9 32.6 24.9 24.6 25.1 23.0 23.1 28.3 19.2 18.6 16.5 16.4 16.4 12.3 18.8 15.4 18.5 13.6 21.1

Median D/E 0.14 0.18 0.20 0.16 0.23 0.25 0.26 0.32 0.41 0.44 0.46 0.58 0.58 0.53 0.52 0.64 0.62 0.63 0.63 0.65 0.45

Median CFO/PAT 1.1 1.1 0.9 1.4 1.2 1.0 1.1 1.2 1.2 1.0 1.1 1.0 1.0 0.9 1.3 1.1 0.9 1.0 1.0 1.1 1.1

10 Yr G-Sec Yield % 6.9% 7.1% 7.1% 6.2% 6.1% 7.4% 7.4% 6.7% 7.5% 7.7% 8.8% 8.0% 8.5% 8.0% 7.8% 7.0% 8.0% 8.0% 7.5% 6.7% 7.4%

Earnings Yield (CFO/EV) % 5.1% 6.1% 5.5% 5.4% 6.6% 4.0% 4.4% 5.8% 6.2% 5.9% 7.0% 6.6% 5.7% 5.2% 6.8% 7.8% 3.9% 5.5% 4.8% 8.1% 5.8%

Earnings Yield/Bond Yield

-27% -14% -22% -12% 7% -45% -41% -13% -17% -23% -20% -17% -33% -35% -13% 12% -52% -31% -36% 21% -21%
Discount

Debt-to-equity ratios have declined to their lowest levels, and EV/CFO metrics remain below
those reached in March 2006, January 2008, January 2018 and March 2019. Given the balance
sheet strength and slightly overvalued EV/CFO, while corrections of 10-20% are possible, a
market crash seems unlikely. I believe that attempting to time these corrections in an effort
to add alpha could result in significant opportunity costs for a long term fundamental based
investor.

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There is a general consensus that mid and small-cap stocks have reached euphoric valuations,
and while it's true that their valuations are more stretched compared to large-cap stocks,
there’s a critical difference. While large caps offer around 100 stocks to build a portfolio from,
the mid and small-cap universe offers over 900 companies with a market capitalization above
₹2,000 cr. For investors like us with limited AUM discipline and seeking 15-20 high-growth
companies with reasonable valuations, it’s still feasible to construct an attractive portfolio.
Naturally, the challenge increases as the number of stocks grows. Moreover, as AUM rises,
the pool of investable stocks shrinks, forcing a shift toward both a larger number of companies
and larger-sized firms. This also reduces the flexibility of exits, often compelling investors to
adopt a long-term horizon by necessity rather than by choice.
Outperformance of Cyclical Stocks and Lessons from this Bull Run
Returning to the point I mentioned earlier, I was surprised to find that cyclical stocks have
outperformed quality stocks over the past decade. There's a widely held belief that investing
in high-quality companies—those with strong ROCE, sustainable margins, consistent earnings
growth, and capable management—typically leads to long-term outperformance, both
against benchmarks and lower-quality businesses. While this holds true in many instances, it
hasn't played out over the last decade. Below is a table that highlights the performance of
cyclical and quality stocks over various time periods.
Mar 2020 to Mar 2024 Mar 2014 to Mar 2020 Mar 2014 to Mar 2024 Valuation Jump

Annualised Earnings Annualised Earnings Annualise Earnings Mar2014 Mar2024

Rise Rise Rise
Returns CAGR Returns CAGR d Returns CAGR PEx PEx

Cyclical 77% 9.8 x 40% -10% .5 x -8% 18% 5.2 x 8% 12.2 28.3

Quality 30% 2.8 x 18% 8% 1.6 x 8% 16% 4.4 x 12% 17.8 25.0

Total 38% 3.6 x 29% 4% 1.3 x 3% 16% 4.5 x 12% 14.6 20.4

Note: This data is for 400 companies (out of the largest 1000) who have data since 2003. Classification of Cyclical Vs Quality
companies has been done using a combination of median ROE levels, volatility in profitability (indicating consistency) and
subjective judgement. Both buckets have around 1/3rd companies each and the remaining 1/3rd companies are not
classified in either buckets. Cyclical companies include segments such as commodities, mining, PSUs, real estate,
construction and infrastructure.

The outperformance of cyclical companies since the post-COVID lows has been remarkable,
driven by significantly higher earnings growth and lower starting valuations. This has more
than compensated for their sharp underperformance between March 2014 and March 2020,
when cyclical stocks halved in value while quality stocks rose by 1.6x. As a result, over the past
decade of the BJP government, cyclical stocks have outpaced quality stocks, delivering an 18%
CAGR compared to 16% for quality stocks.
Now, let's examine a much longer time frame. Below is a table comparing the performance of
cyclical and quality stocks since 2003.

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 Mar 2003 to Jan 2008 Mar 2003 to Mar 2024 ROE (%) Jump Valuation Jump
Annualised Earnings Annualised Earnings March March Mar2003 Mar2024
Rise Rise
Returns CAGR Returns CAGR 2003 ROE 2024 ROE PEx PEx
Cyclical 81% 19.3 x 50% 21% 53.9 x 14% 6.2 16.0 8.1 28.3

Quality 55% 8.9 x 29% 21% 58.6 x 17% 18.9 20.6 11.8 25.0

Total 61% 10.8 x 28% 20% 49.3 x 14% 12.2 17.2 7.0 20.4

During the major bull market of 2003-2008, cyclical stocks sharply outperformed quality
stocks, driven by significantly higher earnings growth and lower starting valuations. Even more
remarkable is that over the 21 years from March 2003 to March 2024, the returns from both
categories are nearly identical at 21% CAGR. While the earnings growth of the quality stocks
was superior over this period, higher valuation rerating for cyclical stocks offset the gap in
earnings growth.
Point-to-point returns can sometimes be
Mar 2003 - Mar
2008 peak to Mar
misleading, as they may obscure the risks
2024 Avg 3 yr
2020 CAGR
encountered along the way. For instance,
Rolling Returns
Cyclical -9% 13% between January 2008 and March 2020,
cyclical companies delivered a negative
Quality 8% 22% CAGR of 9%, compared to a positive 8%
for quality companies, creating an alpha
Total 3% 18%
of 17%. To better understand the
consistency of returns and minimize the impact of entry and exit timings, it’s helpful to
examine the median of rolling returns. We analyzed three-year rolling returns at the end of
each year (2003 to 2006, 2004 to 2007, and so on) over the past 21 years and calculated the
average of those returns. As shown in the accompanying table, quality companies delivered
an average 3 yr rolling returns of 22% CAGR versus 13% for cyclical companies, creating an
alpha of 9%. This is far cry away below the 21% point-to-point returns for the cyclical bucket.
Our strategy has always focused on identifying companies that are expected to double their
earnings in 3 to 4 years with high certainty, backed by our research. In most cases, when
earnings growth materializes, valuations are rerated—regardless of whether the company is
cyclical or quality. While predicting cyclical earnings cycles can be challenging, by being
patient, selective and choosing opportunities with relatively higher predictability, one can still
find attractive investment ideas in both buckets.
The performance of cyclical companies over the past 21 years defies conventional wisdom,
highlighting the importance of maintaining an open mind as a fund manager and considering
opportunities across the entire spectrum. It also underscores the critical role of entry
valuations. Even a few years of underperformance can erode alpha and potentially jeopardize
one’s professional investment career. Beyond point-to-point returns—which can look
impressive following a strong bull run—it’s essential to acknowledge the inherent risk of
cyclical stocks. These stocks are prone to extended periods of negative performance,
sometimes lasting for over a decade. For a fund manager, it becomes extremely challenging
to retain clients when returns are this concentrated and marked by prolonged downturns.
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While constructing an optimal portfolio it’s important to be aware of the risks of both the
buckets.
Following a broad-based rally, where PE multiple rerating has significantly boosted returns
over the past four years—and where the PE multiples for cyclical stocks have even surpassed
those of quality stocks—we believe that future returns will be primarily driven by earnings
growth. However, the pool of companies capable of delivering high earnings growth is likely
to be narrow, making stock picking increasingly critical. Companies that fall short of earnings
expectations could see sharp corrections in both valuation and price.
Wishing you success in navigating what is expected to be a more challenging investment
environment ahead.
Warm Regards,
Samit S. Vartak, CFA
Founder and Chief Investment Officer (CIO)
SageOne Investment Managers LLP

Email: [email protected]
Website: www.SageOneInvestments.com
@SamitVartak
*SageOne Investment Managers LLP is registered as a PMS and an AIF with SEBI.

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 Appendix
SSP* Portfolio Performance (Net of Fees)

Period (Apr 1 - Mar 31) SSP Nifty Nifty Mid 100 Nifty Small 100 BSE 500
FY 2025 (YTD Sep'24) 25.1% 15.6% 25.1% 25.6% 19.3%
FY 2024 36.6% 28.6% 60.1% 69.8% 38.4%
FY 2023 -9.8% -0.6% 1.2% -13.8% -2.3%
FY 2022 44.5% 18.9% 25.3% 28.6% 20.9%
FY 2021 130.1% 70.9% 102.4% 125.7% 76.6%
FY 2020 -17.2% -26.0% -35.9% -46.1% -27.5%
Annualized Returns 30.0% 15.6% 24.2% 21.2% 18.1%
Cummulative Returns 364.1% 207.7% 288.4% 254.5% 228.7%
Source: SageOne Investment Managers, Bloomberg, Wealth Spectrum. *SSP is SageOne Small cap Portfolio

SCP: Latest 12 Years 6 Month Performance (Apr 2012 – Sep 2024)

SCP (Net of Nifty Small
Period (Apr '12 - Sep'24) Nifty Nifty Mid 100 BSE 500
Fees) 100
Latest 12 Years and 6
29.4% 13.5% 17.9% 14.9% 14.9%
Months
Cummulative Returns 2399.4% 387.4% 680.1% 466.4% 465.5%

% Positive Months 67.3% 58.7% 63.3% 58.7% 62.7%

Annualized Stdev 21.3% 15.8% 20.3% 25.1% 16.3%

Sharpe (RFR 7.0%) 1.05 0.41 0.53 0.31 0.48

SCP: First 3 Years Performance (Apr 2009 – Mar 2012)

SCP (Net of Nifty Small

Period (Apr '09 - Mar '12) Nifty Nifty Mid 100 BSE 500
Fees) 100
First 3 Years FY10-12
59.1% 20.6% 31.3% 29.0% 24.3%
(Annualized returns)
Cummulative Returns 303.1% 75.3% 126.3% 114.6% 91.8%

% Positive Months 63.9% 55.6% 61.1% 63.9% 58.3%

Annualized Stdev 58.8% 26.4% 30.4% 35.9% 28.1%

Sharpe (RFR 6%) 0.90 0.55 0.83 0.64 0.65

∗ We have consciously changed the composition of the core portfolio in terms of the average size of companies
and the number of stocks in the portfolio after we started advising external clients in April 2012.
∗ The weighted average size of stocks at the start in FY10 was below $0.25 bn which has increased to nearly
$4.6 bn by the end of Sep ’24. Also, the number of stocks has increased from 5 (+/- 2) in 2009 to 16 (+/- 4)
during the past 11 years and 11 months.

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 SageOne Core Portfolio (SCP) Performance (Net of Fees)
For the first three years, we managed proprietary funds and for the last 11 years and 1 month
we have been advising/managing funds for external clients. Since clients have joined at
various stages, individual performance may differ slightly based on the timing of purchases.
For uniformity and ease, we measured our IA performance using a “representative” portfolio
(that resembles advice given to clients) and we call it SageOne Core Portfolio (SCP). SageOne
core portfolio is not a dummy/theoretical portfolio but the CIO’s actual total equity
portfolio. The representative portfolio until FY17 was reviewed by KPMG. Post that the
performance is for the PMS scheme. Calculated on a TWRR basis for the entire period.
15 Years and 6 Months Performance in INR (Apr 2009 – Sep 2024)
SCP (Net of Nifty Mid Nifty Small
Period (Apr 1 - Mar 31) Nifty BSE 500 Validation/Review
Fees) 100 100
FY 2025 (Sep'24) 33.4% 15.6% 25.1% 25.6% 19.3% SEBI Filed - PMS

FY 2024 66.3% 28.6% 60.1% 69.8% 38.4% SEBI Filed - PMS

FY 2023 -15.6% -0.6% 1.2% -13.8% -2.3% SEBI Filed - PMS

FY 2022 32.6% 18.9% 25.3% 28.6% 20.9% SEBI Filed - PMS

FY 2021 114.7% 70.9% 102.4% 125.7% 76.6% SEBI Filed - PMS

FY 2020 -25.4% -26.0% -35.9% -46.1% -27.5% SEBI Filed - PMS

FY 2019 -9.8% 14.9% -2.7% -14.4% 8.3% SEBI Filed - PMS

FY 2018 31.2% 10.2% 9.1% 11.6% 11.8% SEBI Filed - PMS

FY 2017 28.5% 18.5% 34.9% 43.0% 24.0% KPMG - IA

FY 2016 -7.3% -8.9% -1.9% -13.1% -7.8% KPMG - IA

FY 2015 111.0% 26.7% 51.0% 52.3% 33.2% KPMG - IA

FY 2014 68.0% 18.0% 16.4% 17.8% 17.1% KPMG - IA

FY 2013 26.0% 7.3% -4.0% -7.5% 4.8% KPMG - IA

FY 2012 11.4% -9.2% -4.1% -5.5% -9.1% KPMG - IA

FY 2011 31.4% 11.1% 4.4% -1.0% 7.5% KPMG - IA

FY 2010 175.3% 73.8% 126.1% 129.4% 96.4% KPMG - IA

Annualized Returns 34.7% 14.8% 20.3% 17.5% 16.6%

Cummulative Returns 9973.9% 754.4% 1665.4% 1115.7% 984.9%

% Positive Months 66.7% 58.1% 62.9% 59.7% 61.8%

Annualized Stdev 32.4% 18.3% 22.7% 27.6% 19.2%
Sharpe (RFR 7%) 0.85 0.43 0.59 0.38 0.50

Source: SageOne Investment Managers, Bloomberg, Wealth Spectrum

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 Performance of SageOne AIF Scheme – 1 & 2 (Net of Fees)

(%) Since Inception

1 month 6 months 1-year 2-year 3-year 4-year (Sept 2019)

55.1

50.6

41.1 42.3
39.8 40.4
37.2 36.7
31.7
28.8 29.7
28.3
25.9
24.324.2
22.3
20.2
18.4

2.5 2.1
0.5

SageOne AIF Scheme 1&2 Average of NSE Mid-cap 100 and Small-cap 100 TRI BSE 500 TRI

Note: Our AIF is a blend of SCP and SSP. The above data is of SageOne AIF Scheme 1 from Sept’19 to June’22 and of AIF
scheme 2 from June’22 till date (Sep 30, 2024).

SageOne AIF Scheme 1 was fully redeemed between June’22 to Aug’22 and most investors reinvested the proceeds in
Scheme 2. Scheme 2 is closed for new fund raise since Jan’23.

Legal Information and Disclosures

This newsletter expresses the views of the author as of the date indicated and such views are subject to changes without
notice. SageOne has no duty or obligation to update the information contained herein. Further, SageOne makes no
representation, and it should not be assumed, that past performance is an indication of future results.

This newsletter is for educational purposes only and should not be used for any other purpose. The information contained
herein does not constitute and should not be construed as an offering of advisory services or financial products. Certain
information contained herein concerning economic/corporate trends and performance is based on or derived from
independent third-party sources. SageOne believes that the sources from which such information has been obtained are
reliable; however, it cannot guarantee the accuracy of such information or the assumptions on which such information is
based.