Investing Strategies: How to ride the market post 2nd wave

As the country looks into the future post the second wave of covid, it’s important to understand where we are placed strategically to make the most out of our investments.

On 29th May, 2021, we had an insightful session with smallcase to discuss the Investing Strategies that will help investors in making investment decisions that would be most suitable keeping in mind the current market setup.

But before we try and understand how these strategies work, let’s focus on why the market is reacting the way it is. Remembering March of 2020, when the nationwide lockdown was announced, due to the sheer lack of information that we had, uncertainty levels in the markets were high, and we could clearly see that in the subsequent days as the major indices crashed. The same could not be said for the onset of the second wave of covid-19, although, without a doubt, the second wave was a much more serious threat to our economy, somehow, history did not repeat itself this time, even as states kept announcing and extending their lockdowns.

Let’s understand what happened: 

We look at the Volatility Index of India, which shows how volatile the markets are on a particular day going by the volume of trades that took place on that day. This implies that the Volatility Index is an indirect indicator of fear in the markets. Here we are able to see clearly that the spike in volatility in march of 2020 was much more than in recent times, this is because the market participants have now learnt that apart from a short term lag in business earnings, the economy will go onto performing well in the longer run.

Supporting the market’s optimism are the all time low interest rates, which facilitate cheaper borrowing, enabling many to go for capital expenditure and in turn, helping them meet demand for exports and in turn contributing to a higher Return on Capital Employed as a consequence of a lower Cost of Capital.

Another factor determining market behaviour is the flow of foreign money into the Indian markets, India has received on a net basis close to $78 billion in terms of FPI and FiI, this large influx of foreign capital has also covered investors from a potential downside.

The Manufacturing PMI of India was also higher than what the estimates were. Reiterating the fact that even after suffering from a short term lag in earnings, the longer term trend continues to stay positive.

Now that we have understood the reasons behind this behaviour in the markets, lets now focus on a very interesting study that gives us a broad understanding of the future:

This study by JP Morgan Chase, suggests that India is going to be a major contributor to the world’s Middle Class Population, on top of that, by the year 2030, about 79% of India’s own population will be in the middle class.

A simple inference that we can make from it, is that a larger middle class population contributes to a larger consumer base which has stable spendings, this takes the baseline of consumer spending in the country to a whole new level. The larger and more stable consumer base also contributes to higher economic growth, and just like a chain reaction, the higher economic growth leads to  higher corporate spending, investments and profits.
All this sounds great, but how do we capitalize on any of it? The government of India has been keen on reducing India’s dependency on imports for a variety of goods which are essential for the country. High level of dependency also means a higher trade deficit for the country could have been avoided, had there been the right incentives for domestic manufacturers.

This is exactly what Aatmanirbhar Bharat Abhiyan and the Production Linked Incentive Schemes aim to achieve.

These schemes were announced last year, and since then a lot of progress has been made on them.

Pharmaceuticals Sector:

As discussed above, the country relies heavily on imports for many essential goods. Our country imports a large amount of bulk drugs (raw materials for making medicines)  and intermediaries from China for the pharmaceutical sector.
The PLI scheme for the Pharma sector aims to incentivize domestic manufacturing so as to make India self-sufficient for its medicine needs and also reduce its dependency on countries like China for essential raw materials.

To achieve this, Rs 6,490 crores have been allocated by the government in order to incentivize domestic players to set up manufacturing units. Out of this, Rs 5,366 crores have already been approved by the government as investment commitment.

Telecom Sector:

The telecom sector has seen a  huge increase in the number of users in the past 5 years, the surge in total users also calls for upgrades in connectivity infrastructure especially considering the move towards 5g spectrum. The country once again found itself highly dependent on China for connectivity infrastructure. To address this, the PLI scheme focuses on incentivizing domestic manufacturers for catering to the domestic demand but also for becoming global players by exporting connectivity infrastructure worldwide.

Solar Panels Manufacturing:

Did you know that 80% of solar modules are manufactured in China? Despite all the anti-china sentiments, we rely on them for our solar plants, because the manufacturing capability in India for Solar Panels is bleak.

With the renewable energy goal set to 60% of total energy by the year 2030, solar panels are going to be in demand. For this, Rs 4,500 crores have been allocated to the sector supporting 21 GigaWatts of solar modules supply. The scheme plans to incentivize manufacturers of these panels for 2 things, increasing manufacturing capacities and sourcing their raw materials from the domestic market. This will help reduce import costs for solar panels as well as take us a step forward towards Aatmanirbhar Bharat.

Textiles:

Indian manufacturers hold only 5% market share of the international textiles market.

The objective of this scheme is to promote building of new facilities and attract investments in the Man Made fibres sector under Greenfield and Brownfield investments.

To further promote textiles manufacturing, the finance minister of India also announced 7 new mega textile parks in the country. These textile parks will make Indian manufacturers highly competitive as the land procurement of production facilities would be done by the government.

Chemicals:

The government of India is also working on a PLI scheme for the chemicals sector to further incentivize manufacturers in supporting the country’s chemical needs, this sector gets a further boost due to the extensions being provided by the government on anti dumping duties.

Advance Chemistry Cell & Automotive:

The lithium ion batteries used in electric vehicles come under advanced chemistry cells. Our country is fast moving towards electric mobility, and with that, the dependency on imports for advanced chemistry cells has to be reduced to take full advantage of the electric era. For this, PLI scheme for Advance Chemistry cells was announced recently, with an allocation of Rs 18,000 crores to the sector.

The automobile sector has been witnessing a global slowdown, to cushion the impact, this sector received a mammoth allocation of Rs 57,000 crores, this along with the PLI for chemistry cells will help the country move swiftly towards electric mobility, and revive the auto  sector while at it.

Our Top Picks for this strategy:

Jubilant Pharmova Ltd:

About the Business:

Jubilant Pharmova Limited operates as an integrated pharmaceutical company worldwide. 

It operates through three segments: Pharmaceuticals; Drug Discovery & Development Solutions; and Proprietary Novel Drugs. 

The Pharmaceuticals segment engages in the manufacturing and supply of allergy therapy products, contract manufacturing of sterile injectables and non-sterile products, active pharmaceutical ingredients, and solid dosage formulations, as well as sale of radiopharmaceuticals through a network of 49 radio pharmacies in the United States. 

The Drug Discovery & Development Solutions segment provides collaborative research services to pharmaceutical innovators. Proprietary Novel Drugs segment develops therapies in the areas of oncology and auto-immune disorders. 

Q3 was strong across all business segments, with Revenue Rs 1,771 crores which is 11% up QoQ and EBITDA Rs 528 crores which is up 43% QoQ.

The Catalysts for Growth:

The company reduced its net debt levels by an additional 570 crores and will continue to deleverage by way of healthy cash flows. They have also been manufacturing Remdesivir for Gilead, bamlanivimab, a drug that has been granted emergency use authorization by the FDA for treatment of COVID-19, for Eli Lilly and COVID-19 vaccine candidate NVX-CoV2373 for Novavax.

They have shown steady growth in allergy therapy products and the contract manufacturing segment which is  expected to aid the company’s pharmaceutical business.  A capex plan of 1400 crore in next 3 years is in place for expansion. The capex is expected to be largely funded from internal accruals.

They have the second largest radio pharmacy network in the USA, the company will continue to grow this segment at a constant rate.

Expanding it’s Contract Manufacturing, API and generics medicine business.

Welspun Enterprises: 

About the Business: 

Welspun Enterprises Limited engages in the engineering, procurement, and construction of infrastructure development projects in India. It operates in two segments, Infrastructure, and Oil and Gas. The company develops and operates roads and highways, and water and urban infrastructure projects on build, operate, and transfer basis; and operates and maintains projects for the transportation sector. The company follows an asset light strategy. They are invested in the oil and gas sector through Adani Welspun Exploration Ltd. (AWEL) which is a Joint Venture between Ahmedabad based Adani Group and Mumbai based Welspun Group undertaking the upstream oil & gas business. In this JV, Adani Enterprises holds 65% and Welspun Enterprises Ltd holds 35%. Under the existing portfolio, the Company has four relevant blocks out of which 2 are situated in Mumbai offshore basin and 2 are situated at the Gulf of Kutch.

Out of the 4,400 crores worth of road projects the company has, 77% are based on Hybrid Annuity Model (HAM) while the rest 23% are based on the former build-operate-transfer (BOT) model. 

HAM is a mix of BOT Annuity and EPC models and is a much more efficient model as all clearances, and around 80% of land is provided to the contractor by NHAI at the time of allotment. 

Also, the Equity requirement for a project is pretty less in this model as only 12-15% of project cost is required as compared to 25-30% in BOT model.

Q3 for the company was stable, despite the challenges faced like the  NGT Ban and farmer agitation which is directly impacting their Mukarba Chowk-Panipat Project. Revenue was at Rs 465 crores and EBITDA stood at Rs 50.7 crores.

The Catalysts for Growth: 

The Management claimed that the NGT Ban had now been removed. The company has been awarded the contract of Rs 1,100 crores in EPC segment by UP State Water and Sanitation Mission, Namami Gange and Rural Water Supply Department. It should be kept in mind that the contract has been awarded under a JV between Welspun and Kaveri Infraprojects Ltd, with 74% ownership with Welspun.

Their financial strength remains strong going forward, as they are able to finance projects worth Rs 12,000 crores without necessarily borrowing or exposing their balance sheet.

Their Debt to Equity ratio also stands at 0.98 and along with that the company enjoys AA credit rating which is one of the best in the industry. Welspun Enterprises has 8 projects in its road portfolio taking the total portfolio size to Rs. 10,600 crores. 

Unexecuted order book at the end of FY20 stands at Rs. 5,200 crores which implies a strong revenue visibility for at-least next 2 years.

JSW Energy 

For any country, its power is critical for infrastructure, or its economic development and also the nation’s welfare as a whole.

People often say that infrastructure or small businesses are the backbones of a country. But we believe it is power. Because at the end of the day you need a reliable power source to light up your homes, to run machines and factories.

As Divam discussed, India is expected to experience an economic boom until 2030. May it be with infrastructure, manufacturing, or the influx of families to the middle-class bracket.

Power demand is expected to double by 2040 from the current levels according to the ‘2021 India Outlook by International Energy Agency.

JSW Energy is mainly engaged in power generation with an installed capacity of 4.6 GW. Even though 70% of power is derived from thermal coal, their renewables portfolio has been growing at a 17% CAGR since 2016.

And they plan to increase their total installed capacity to 10GW within just 3-5 years. This 10 GW will mostly be dominated by Solar and Wind plants.

Moreover, their debt, overall balance sheet strength, strong parentage and significantly low valuations compared to Adani Green and TATA Power, makes JSW Energy our top pick in the energy and power space.

Caplin Point Laboratories

During the past 10 years, their revenue has been growing on a 30% yearly basis. 

Unlike other Indian pharma companies, their sole market is the Latin American region. 87% of their revenue came from this region. The other regions being Africa and North America which account for 5% and 8% of their revenues.

Caplin is forward and backwards integrating their operations, meaning as a part of forward integration, they are acquiring parts of the supply chain and as part of backward integration, they have started producing their own raw material for their drugs aka API. 

They have become heavily backward integrated meaning when their competitors are sourcing 75% of their API from China, they only source 16%.

Three months ago when we mentioned this share, the company had 12 drugs awaiting FDA approval, and now that number is 8, as they received approval for 4. What’s interesting here is that they plan to file for approval from the FDA for 45 drugs by FY26. 

And here is the best part, they have one of the highest operating margins in the industry with the lowest P/E ratio. Also with their near-zero debt and strong balance sheet, it makes up for a deep value growth stock to watch for. 

Meghmani Organics

Meghmani Organics is a company which engages in manufacturing pigments, agrochemical products and basic chemicals.

The pigments produced by them are used in various applications like printing ink, plastics, paints, textiles, leather, paper and even rubber.

Their agrochemical business provides formulations and intermediaries for insecticides , fungicides, and herbicides which are used for crop protection, public health, insect and termite control etcetera.

Q4 looked stable with Revenue at Rs 459.2 crores and EBITDA at Rs 338 crores.  The company has also been working constantly to bring down their debt, as we speak the debt-equity ratio stands at 0.23, which is commendable.

They have recently commissioned 2 new plants (4 D)  in Dahej, doubling their capacity at 21,600 MTPA. Another Plant in panoli has started commercial production for them, the increased capacities will positively impact their toplines in FY22.

Smallcaps Multibagger Smallcase:

Since the market crash of march 2020, the NIfty Small Caps index has had a run of nearly 200%. There are companies in the small caps space which are yet to show performance of this calibre, and are available at a good margin of safety.

Observing the current market setup, in order to help investors make the most out of this opportunity in the smallcap stocks, we have launched our newest smallcase, ‘Smallcaps Multibagger’. 

As the name suggests, the smallcase focuses on smallcap companies with market caps ranging from 200-2000 crores. This smallcase follows the investment philosophy of our flagship portfolio ‘High Quality Right Price’ and in doing that, ensures that investments made under the smallcase are quality picks with a high upside potential and low downside risk. It also takes into consideration all the factors that were discussed above. While screening stocks, we focus on factors like management integrity, capability and history, strong balance sheet, operational legacy, up trending revenues to name a few.