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The clock is ticking...

... as Dipen Sheth waits for the bad news to spread and weak investors to panic and sell. This is when valuable companies will be available at rock-bottom prices.

Dipen Sheth        Print Edition: November 13, 2008

We have lost money in both our model portfolios, Wealth Zoom and Safe Wealth. Still, by not doing anything over the past few months and remaining unusually exposed to cash (and cash equivalents), our portfolios have partly escaped the ignominy that other investors have suffered. As the tables (see Returns so far) for both the portfolios show, in spite of the absolute losses they have posted, our portfolios have done moderately well compared with their benchmarks, the Nifty and the CNX Midcap.

On 17 October, the BSE Sensex slipped below 10,000 for the first time since 2006. This might represent an important psychological ‘tipping point’, when stocks are likely to pass out of ‘weak hands’. The lesson from all the market crises of the last century has been that weak hands liquidate their holdings when pain crosses a threshold. Very often (and quite ironically), this is just when the tide is about to turn. Will it turn this time when the Sensex is at 10,000? Or will the ‘main street’ buckle under the excesses committed by the ‘financial street’?

I’m afraid there is no accurate answer to this vexing question. But I have met lots of people whose conviction about stock values has been shaken. So who are these weak hands? Remember all the froth and fun of less than a year ago, and the euphoric revellers on Dalal Street drinking goblet after goblet of leverage? The India fund run by a twenty-something genius out of Singapore (or Boston), the hyperactive just-out-of-college adviser at your brokerage, the textiles trader who flashed Sensex alerts on his GPRS-enabled mobile are all grovelling in the dirt. And some are actually swearing never to enter Dalal Street again.

As the bad news spreads (which surely has begun by now, as is visible in the Q2 earnings) from the financial street to the main street, it is these very weak hands who will progressively abandon the faith and read the writing on the wall. It is then that the ‘strong hands’ will appear and coax out the valuable companies at really cheap prices from them. And sit on these stocks for years. Yes, that’s right, Y-E-A-R-S!

Strong hands inevitably look for strong businesses run by dependable people. When the world goes through a recession (as it must, I guess, over the next few quarters or even years), these businesses are also hit. But they come back fighting once they have endured the storm. They usually enjoy a sustainable competitive advantage, be it an invincible brand name, an unbeatable distribution chain or a top-of-the-line technological edge, which they might even inherit from an overseas parent.

Many such businesses are multinationals with strong promoter backing for business growth, capex funding and staffing. They are industry leaders, both in volume terms and pricing power, and often earn returns on capital employed in excess of 30% at the least. Not surprisingly, dividend yields for some of these worthies run into double digits at the current depressed prices.

After the sector-wise shopping lists shared over the past two issues, here are five high-pedigree, relatively safe and, perhaps, recession-proof companies to be considered for adding to our portfolios.

Hindustan Unilever: This FMCG giant seems overvalued, but it has always been a market leader in most segments that it competes. It earns over 60% RoI and distributes almost all its earnings as dividend and yields, nearly 4% annually on this account. At over 25 times earnings, this is probably the costliest stock that we have in this list.

Hero Honda: This two-wheeler leader is actually gaining market share against, allegedly, more nimble-footed players like Bajaj Auto and TVS. With falling interest rates and stable petrol prices, it has bravely upped prices and taken home the winnings. People are buying (and so will we, soon enough) at half of HUL’s dividend yield, but at a better PE at about 15 times.

Infosys: Not again! No new comments here except that India’s most respected company is now available at around 12 times the 2008-9 earnings.

ESAB India: Another RoI leader, at over 90% return on invested capital. And this is after tax! If you don’t want to buy this globally respected welding electrodes/ equipment leader at under 8 times, consider the 4.6% dividend yield that it offers.

Castrol: Also spelt as f-r-a-n-c-h-i-s-e! The no. 1 name in lubricants has been working at static volumes but improving margins over the past few years, as it tightens focus on car owners rather than truck drivers. A 90% dividend payout (expected to yield 6% this calendar year), and a PE of 12 are attraction enough for me. After looking at the 70% RoI, the more fussy among my readers should fall in line too. Send in your preferences and I promise to buy at least three ideas in each portfolio on 5 November (that’s the Wednesday we close our portfolios for the next issue). And feel free to suggest new ideas. I have an open mind and a half-full wallet right now.

Readers’ response

The time looks ripe to go shopping for stocks, but I would suggest going for staggered buying since the bottom still does not look in place and the market may touch lower levels after three months. Opto Circuits seems a good pick at current levels. In the financial space, I would pick ICICI Bank, which is trading at a substantial discount compared with its peers like HDFC Bank and Axis Bank.

Some other good picks at current levels can be RIL, Excel Crop Care and Bartronics. Capital goods stocks like L&T and Bhel are trading at PEs in the range of 20-25. They may trade at lower levels once their Q2 results are out.

— Akshdeep Singh

Disclaimer: Model portfolios are based on the independent opinion of Dipen Sheth, head of the research team at Wealth Management Advisory Services. They do not reflect the opinion of the firm. They are for reference and information of readers. The firm is not soliciting any action based on the portfolios.

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