Corporate profitability is at multi-year lows and most investors are chasing stocks with visible earnings growth. Experts say investors should now scout for value stocks.
With benchmark indices hitting new highs, the stock market is in a jubilant mood. Expected political stability in the country and growth concerns in the US are the reasons. “Money flow to emerging markets like India will increase now due to the expected rate cut and other easing measures by the US Fed,” says Abhimanyu Sofat, Head of Research, IIFL Securities, according to Economic Times
As FPI inflows are expected to continue, the market’s large-cap bias will remain intact. At the same time, corporate profitability is at multi-year lows and most investors are chasing stocks with visible earnings growth. This has pushed up valuation of large-cap stocks. Experts say investors should now scout for value stocks.
Investors should avoid selecting a sector that is beaten down for valid reasons, like telecom. They should also not avoid all stocks from a sector that is valued highly. “Investors should avoid taking a blanket buy or sell decision. They should take a bottom up approach and value each stock on its own merit. For instance, while the consumption segment is highly valued now, it consists of several sub-sectors. Some stocks from these sub-sectors are worth considering,” says Vaibhav Agarwal, VP & Head of Research, Angel Broking.
Corporate facing banks like SBI, ICICI Bank and Axis Bank, among others, faced the brunt of the domestic slowdown on the back of increased non-performing loans (NPLs). There are several value stocks to be found in this basket. “With the expected reduction in NPLs, profitability of corporate facing banks should improve. Despite the recent rally, there is enough value still left in these banks,” says Sofat.
NBFCs, still plagued by liquidity crisis, is another segment were investors can search for value. The slowdown in vehicle sales has worried investors about NBFCs dealing in auto finance. However, brokerages are getting bullish on Mahindra & Mahindra Financial Services (MMFS). “MMFS appears well placed to navigate the demand slowdown. Current valuation is also close to its long-term mean; appearing to factor in most concerns,” says a recent HSBC Global Research report.
The three value stocks worth investing in now
Due to low valuations, these companies offer good upside potential and reduced downside risk.
The government’s rural-focussed spending is expected to increase. Increased government spending will play a major role in stimulating rural consumption and MMFS will be a beneficiary. MMFS has also reduced its dependence on Mahindra & Mahindra and become a company with a diverse loan portfolio.
The sudden surge in international crude oil prices and inability of PSU oil companies to pass on these additional costs to consumers have revived subsidy fears in these counters. However, analysts are betting on ONGC because its current market price has already factored in these fears.
For instance, ONGC’s one year forward PE is now placed at a 10 year low. The subsidy risk is also not big for ONGC. This is because unlike PSU oil marketing companies, ONGC will only giving up a part of its possible windfall profit that will accrue due to the spiralling crude oil prices.
There was no subsidy burden for ONGC in the third quarter of 2018-19 and it reported a net realisation of $66.4 per barrel. So even if the government doesn’t allow ONGC to charge the current price of $72 per barrel, there won’t be fall in its net profit. Its crude oil production is on a slow lane due to project execution delays, but its gas production is going on smoothly. “ONGC’s gas production is estimated to grow by around 5-6% in financial years 2020 and 2021,” says a recent Motilal Oswal repot.
Infrastructure and capital goods companies are on the receiving end now due to a liquidity crisis and payment delays. However, these delays have not impacted fundamentally strong companies like Bharat Electronics. It has remained a debt-free company despite payment delays by the Ministry of Defence. More importantly, it is managing the liquidity crisis by taking more civilian orders.
As per provisional figures, Bharat Electronics has an annual turnover of Rs 11,700 crore and order inflow of Rs 23,200 crore during 2018-19, which is around 3-4% above street expectations. “A healthy mix of short-cycle civilian orders should be able to offset the Rs 3,000 crore revenue it generated from Election Commission in 2018-19 and help it to report 13-15% sales growth in 2019-20”, says a recent IIFL Institutional Equities report.
Due to higher share of civilian orders, net working capital cycle of Bharat Electronics is also expected to improve in 2019-20.