On 4 May 2009, the Sensex registered its biggest single-day gain since October last year. The 6.4% (731 points) rise saw investors rushing to buy. "At these times, we know many won’t listen, but it really helps to avoid stocks with weak fundamentals," says Amar Ambani, vice-president of research, India Infoline.
Yes, the gains did fuel expectations that the economy might rebound faster than expected, but analysts like Ambani are not sure if the momentum is sustainable as the current rally is led by sectors (real estate, metals and IT) that are yet to see a significant pick-up in demand. But these analysts are not completely pessimistic. "Our recommended strategy is to be overweight in sectors focused on the domestic market," says Nischal Maheshwari, head of research, Edelweiss Capital. We take a look at five sectors that are the most preferred by analysts and the hottest stocks in each.
Last year was challenging for the Indian auto industry. High commodity prices in early 2008 squeezed margins, and by the end of the year, shrinking sales began to hurt. However, the industry has hit a smooth patch, with the government reducing excise duties and lowering rates on consumer loans. This has helped revive the demand for cars and twowheelers.
"We expect the passenger car industry to continue to improve due to the excise duty benefit and rural market demand, but the requirement for commercial vehicles is likely to witness pressure," says Umesh Karne, analyst, Reliance Money.
Hero Honda and Maruti Suzuki reported very good numbers in April 2009. The two-wheeler major has seen a 15.1% rise in sales volumes, while Maruti has registered a robust 29.5% growth. Maruti, in particular, is expected to benefit when the economy revives, despite the fact that the company’s fourth quarter earnings have taken a beating. "We think that the company is better placed than its peers to take advantage of any kind of revival in the passenger car industry to maintain its leadership position in the segment," states a report by the Mumbai-based brokerage firm, Sharekhan.
Rising commodity prices hurt the margins of capital goods and auto companies. Like the auto industry, capital goods were also hit by a decreasing order inflow due to the slowing capital expenditure. However, according to the February index of industrial production, the segment posted a robust year-on-year growth of 10.4%.
Analysts seem cautiously optimistic, though some companies are yet to see a definite revival of order inflows. Most analysts expect new orders to come from capacity additions in the power transmission and distribution sector as tendering activity for the Power Grid Corporation gathers pace. Analysts recommend that investors stick to firms with robust order inflows and a substantial order backlog. Large-cap companies such as Bhel and Larsen & Toubro are good options. In 2008-9, Bhel’s year-on-year order inflow grew by 18.7% to Rs 59,687 crore. With a total order backlog of Rs 1.17 lakh crore, the management expects the company to clock a robust revenue growth of 20-25%. "Bhel would be one of the few Indian large-cap stocks to have an earnings upgrade cycle in 2009-10, which would drive the next leg of outperformance," says Inderjeet Singh Bhatia, an analyst at Macquarie Securities.
Although the pharma sector has been a relative outperformer in the past one year compared to the broader market, analysts have some concerns. The last quarter saw a mixed bag of results largely due to forex losses, says Sarabjit Kour Nangra, vicepresident, research, Angel Broking. "Having said that, one could take a stock-specific approach, as the sector makes for a good defensive bet. Look at the companies in the contract research and manufacturing services space, which is likely to grow at 25-30% for the next few years," she says. Large generics players can also be considered. The swine flu pandemic could benefit companies like Cipla and Ranbaxy in the short term, as these have the technological capabilities to manufacture Tamiflu, the drug required to treat the disease.
"Cipla will benefit significantly from the sharp rupee depreciation. Its core earnings are expected to witness a 34% cumulative annual growth rate during 2008-11. The stock is a good buy considering that it is a strong player in the generics market with a foothold in developed markets," states a report by India Infoline. On the domestic front, a burgeoning middle class and changing disease profile are expected to fuel the growth of the pharmaceutical market by more than 12% a year.
Popularly seen as a safe haven in times of trouble, FMCG companies continue to attract investors. The BSE FMCG index has lost only 10%, while the benchmark Sensex has lost 30% in the past one year. Historically, the sector has been resilient during economic downturns. According to research house Noble, in the previous downturn between 2001 and 2004, diversified FMCG companies such as Marico, Dabur and Godrej Consumer fared well.
Personal care companies like HUL, Colgate-Palmolive and Dabur are expected to benefit from the correction in palm oil and packaging material prices. A decline in copra prices is expected to help improve Marico’s operating margin. "We expect volume growth to remain robust and margins to expand for most FMCG companies," says Abneesh Roy, an analyst at Edelweiss Securities.
Colgate-Pamolive is the most preferred FMCG stock. "The company comes across as an allround performer with strong brands in oral care, leading distribution in the sector, shareholder-friendly dividend policy and a track record of boosting margins in times of top-line slowdown. We do not expect any weakness in revenues from a cyclical slowdown," says Jaibir Sethi, an analyst at the Noble group.
Always a competitive industry, the telecom sector is beginning to see an intense struggle after the entry of Reliance Communications in the GSM arena. Despite competition putting pressure on margins, the industry has reported a robust growth rate in a slowing economy. According to analysts at Macquarie, GSM operators reported the highest net subscriber additions of 10.85 million in March 2009; between October 2008 and March this year, operators have seen a breathtaking increase in new customers. "The trend supports our bullish stance on wireless subscriber growth in India," says Shubham Majumder, an analyst at Macquarie.
Bharti Airtel, which has added 2.81 million subscribers in March this year, is seen as the best bet. Analysts say that the management is now focusing on revenue market share. "Superior subscriber profile, a healthy balance sheet and higher visibility of cash flows makes Bharti our top pick in the telecom sector," says Nishna Biyani, an analyst at Prabhudas Lilladher.