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Mutual Fund News

Where to buy a dollar for 80 cents

Fabrice Taylor is a Chartered Financial Analyst.

It's hard to lose when you can buy a dollar for less than 80 cents, so with no further ado, meet the DPF India Opportunities Fund.

It trades on the Toronto Stock Exchange at about $5.40 a unit, but each of those units has a net asset value of more than $7.

In other words, if the closed-end fund were liquidated today, a recent buyer (and I am one) would realize an immediate gain of about 25 per cent.

The intelligent investor will greet this information with skepticism, and so he should. How is it possible, in a more or less rational world, that something can be had for a lot less than it's demonstrably worth?

It's a good question - and there are good answers to it. First, though, a little about the fund. It went public three years ago, raising about $250-million. Fund manager Rohit Sehgal says India was considered a hot investment back then and his firm, Goodman & Co., saw an opportunity to capitalize on that interest.

It was a nice idea except for the freight train known as the global financial crisis. Like every stock, business, fund, and what have you, the DPF units were crushed. Mr. Sehgal says the fund was heavily invested in Indian banks, which made matters worse. Although those financial institutions didn't have the toxic assets that killed U.S. banks, they took it on the chin anyway. The fund units, which went public at $10, fell below $3 twice, late in 2008 and in early 2009.

They've recovered nicely since, and those Indian bank stocks have done better than most other banking shares. The Indian economy is also doing well, growing at 7 per cent in 2009 and an estimated 8 and 11 per cent this year and next.

Mr. Sehgal argues that India is a better place to invest than China. It's not export-driven, meaning you're investing in domestic consumption rather than being at the mercy of foreigners. India's economy is also more high-tech and capital-intensive than China's, meaning, in theory, higher returns on equity. Industrial production is growing fast. The population is young and increasingly educated. And consumer demand is growing. Every month, Indians buy 140,000 cars and that number is going up.

Of course, the country does have its flaws. Although the Indian government is relatively stable, the nation suffers from all the political and cultural issues common to the developing world. Inflation is a worry too.

But India also has a high savings rate and a consumer that, according to Mr. Sehgal, doesn't rely on the credit system, preferring to pay cash.

Most importantly, foreign capital is flooding into the country, driving up share prices. About $17-billion of foreign money went into Indian stocks last year and more than $18-billion followed suit so far this year.

So, if you like the investing thesis so far, how about that discount? Unlike mutual funds, closed-end funds issue a limited number of units and can trade for less or more than their underlying net assets are worth.

In the case of DPF India Opportunities, the disparity between market value and net asset value has ranged from a slight premium to a discount of more than 30 per cent. What you find is that the discount tends to close when the net asset value starts to move up - i.e. when Indian stocks start to do well.

Other similar funds also have a discount but not so big. The reasons? DPF is not as well-known as some of its rivals, such as the India fund run by JPMorgan, for instance. Also, the DPF fund has a lot of institutional ownership so it doesn't trade as often as some of its counterparts.

The discount at the moment is large and could close in any of a number of ways. For starters, the fund has bought back units - 2 million of the 25 million issued - which should help. It could also add a redemption feature that would allow investors to swap their units for cash, which would help even more. Mr. Sehgal won't say whether this is in the cards, but he did acknowledge that the discount is on his and his employer's minds (both own units).

In any case, the investment case is pretty simple. You can buy units at a discount and make money if the portfolio merely remains stable and the discount closes. You can make even more money if the portfolio does well and the discount closes. If you can be patient and ride out some volatility you should be rewarded.

© 2007 The Globe and Mail. All rights reserved.

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