Friends – I want to start with a recent quote from Howard Marks – “These days everyone has the same data regarding the present and the same ignorance regarding the future”.
As investing is the act of positioning capital to profit from future developments –all of us are battling the same ignorance about the outlook for our economy and trying to make sense as to where to position our capital.
So here I am, sharing my thoughts on how to find companies where we can invest.
This is a stock market specific note and if you are not into stock markets, you may not find your answers.
I had underestimated the smartness of Indian govt in flattening the curve and managing the lock down – so my prediction of the situation in India in April was more pessimistic than the actual situation.
BSE Sensex went down from 41,000 levels in mid Feb to 26,000 levels in March and has bounced back to 30,000 levels – that’s a 27% drop.
I believe the next three months, our stock markets will be range bound (till July 2020)– waiting and watching the Covid19 containment efforts in India and corporate performance. The effects of lock down in March and April will show up in current year and next two quarter financials.
I expect a 15-20% drop for companies with good balance sheet and cash flows – the likes of Asian paints, Pidilite, Relaxo etc.
For others, it would be more than 20% fall in top line and a larger fall in bottom line.
We should be having a vaccine for Covid19 in about 12-18 months and it may take another 6 months to get it individually. I expect life to come back to the pre- Covid19 days by March 2022. Till then social distancing will be required and the risk of a local spread / hot spot and 2-3 week lock down will be real.
The markets will hopefully start going up after Diwali 2020 and in two years, we will be back to 41,000 levels. The enhanced liquidity unleashed by central banks world over will hasten this upward move.
We will need to separate the sectors / companies based on how fast it will recover to pre-Covid19 days.
- Sectors like FMCG, Pharma, Healthcare, Packaging, IT and ITeS will recover faster – may be in two quarters (by Oct 2020).
- Sectors that will recover next year (2021 -2022) would be Apparel, Chemicals, Jewelry, Retail, Logistics, Banks, NBFC’s etc
- Sectors that will recover in two years (2022-23) will be Real estate, Tourism, Hotels, Aviation, Capital goods etc.
Now each of these sectors have some good companies (mainly market leaders) – it would be prudent to study that specific company / stock and wait for the right price in stock markets.
How to find the right candidates for investing?
Let me take two examples – two market leaders and try to analyse (all data used is from screener.in):
TCS -this company needs no introduction. TCS had an EPS of Rs. 83.93 in FY 2019. The EPS for the first three quarters FY 2020 was Rs 65- and assuming a few days of lock down in March, the EPS of Rs. 80 for FY 2020 should be a conservative estimate. Assuming a 5% reduction in profits (profits in USD may go down by 15% but the USD is getting stronger and so the profits reduction in INR would be only around 5%) – the EPS in FY 2021 would be Rs. 76. The median PE for TCS in the past three years has been 24.5 and assuming an EPS of 76, the median price for TCS in FY 2021 would be Rs.1862. The current price is Rs.1735 – that means, if we buy it now at Rs.1735 and sell it in Jan/ Feb 2021 at Rs.1862, we will make a ROI of 7.3% over 10 months. If we want a 20% ROI, we will need to get a price of Rs. 1550.
Indian Hotels (the Taj group) is the largest hotel company in India. Two years back, their CEO announced an asset light turnaround strategy. The financial results followed, with the company making a small profit of Rs.101 crores in 2018 after five years of losses. The profits went up to Rs. 287 crores in 2019. Now with Covid19, the profits would be lower (they had declared profits of 280 crores for the first three qtrs.). Assuming that the performance returns to 2019 levels in two years, the stock price also should also return to 2018-19 levels after two years. The stock in 2018-19 hovered between Rs. 110 and Rs. 156 (average of Rs.133). The current price of the stock is RS. 79 – which means we will get a 68% appreciation in two years – or a CAGR of 29.6% – now this is worth buying at current prices.
I would like you to use this logic and study companies – markets leaders in various industries and come up with a list that you think makes sense. Please share it with me as well. If it makes sense to me, I will share your ideas with credits to you in my next post.