Unifi’s approach to managing Investment Risk

• Its Unifi’s responsibility to understand and control the risk embedded in each investment as well as the client’s portfolio level. Risk assessment is our first step in evaluating an opportunity and our investment managers recognise that capital safety is a preeminent part of their role.
• Risk fundamentally arises from uncertainty about the future. It cannot be eliminated, but we can be control it by:
  • a. Knowledge and understanding of our investment landscape
  • b. Limiting our exposure at company, sector, promoter, currency and country level
  • c. Diversification and portfolio construction
  • d. Having an appropriate time horizon
• Our priority is to understand factors such as the entrepreneur, materials, markets, technology and consumer behaviour in order to assess their implications upon the businesses we own. Since we can’t be absolutely certain about anything to do with tomorrow, its logical to think in terms of probable scenarios and size our exposure in proportion to the level of our conviction in the opportunity.
• All risks are not equal. Some pose greater threat to us and we completely avoid them- such as managements with poor integrity. Certain other risks, such as a management’s capability are inherently contextual and are evaluated in relation to the investee firm’s situation. We have no option but to accept a great many “natural” risks(commodities, currencies, weather, technology etc.) in the course of investing, but we maintain a heightened sense of accountability to generate more than adequate compensation for the overall risk we accept i.e. a superior risk adjusted return.
• Volatility is widely regarded as a good measure of risk. However, given our investment strategies, we think it makes more sense to view riskiness of an investment in terms of the probability of permanent loss of our capital. Volatility is an excellent indicator of investors’ emotions, which usually lead to a great deal of stress and attrition. It provides excellent opportunities to those who can control emotions using their superior understanding of a situation’s fundamentals.
• Generally, uncertainty is greater in relation to the outcomes that are further away in the future. Therefore, we see the long-term future of a business as a series of short-term steps, with each step providing us validation of its overall potential.
• Mis-selling our services to investors can lead to mutual dis-satisfaction and we try hard to avoid it. We explain our funds’ strategy and related risks at the outset as well as during review meetings so as to minimise the risk of our clients reacting to portfolio stress and redeeming capital during cyclical lows. For example, our stock and sector exposures could be significantly divergent from the constitution of indices against which we are benchmarked; we may have a meaningful proportion of illiquid positions in our portfolios; we consciously avoid momentum stocks and look for the intersection of improving business prospects of a firm with past stock price under-performance since it limits our downside.
• Unifi predominantly invests in mid and small cap firms. These stocks are generally less liquid and its important that we manage our impact cost on both entry and exit; we use a combination of dynamic limits, tactical block trades and a diligent team of dealers. We limit our overall exposure to a company using a proprietary model. We are open to trading-off some portion of our potential upside, by being a bit early in entry and exit, so that we can build adequate scale of exposure to a business we like. Above all, we seek clients who are willing to be patient in order to earn a superior return.
• Valuation risk exists both in absolute and relative terms. To identify value, we use absolute measures such as PE to growth, ROE and financial leverage with due adjustments that are contextual to the respective business. And we use these measures to also signal a sell decision when excessive optimism lifts stock-prices unreasonably. Our focus on absolute valuation leads to stock selection that differs from institutions such as most mutual funds whose holdings and holding periods are substantially influenced by the relative composition of their benchmark indexes. Naturally this could lead to periods when our returns deviate significantly from major indexes, but we expect to outperform over a full cycle and the longer term.