April 8, 2013

Searching the debris

There are two numbers I want to highlight

-13% and -15%
This is the drop in the CNX midcap and CNX small cap index since the start of the year. If these numbers look troubling, they don’t even represent the vertical drop in some stocks. I wrote about some such stocks in this post and now that seems to have become a daily affair with some stock just dropping like a stone.

I have to be honest about one thing – I have never seen such bungee jumping in the Indian markets. In the good old days, the market took its own sweet time to react to any fundamental or corporate governance issue and as a result an investor had a lot of time to get off the train wreck.
No such luck these days!!
If the company you own comes out with slightly disappointing numbers or if there is whiff of a corporate governance issue, the punishment is brutal.

The good news
It would take real optimist to look for any good in this. I am in that camp.

If  you are looking closely at the carnage, you may have noticed that companies with a weak business model or poor corporate governance are getting punished severely. At the risk of sounding insensitive, I would say that is the way markets should work. A properly functioning market should reward companies with sound business models and good managements and punish the wealth destroyers.

In case you think I am being insensitive to the plight of a lot of small shareholders, let me tell you that I have suffered for my poor decisions in the past and some of my current holdings have got impacted too. The market is not a good place to discover yourself.
Digging through the rubble
 A lot of investors, if there any left, are shell shocked with this sudden turn of events.  The most common advice is to wait for the uncertainty to resolved. The reality is that the future is never certain – it is just that investors sometimes get optimistic and pay for the illusion of certainty.

One can choose to either wait for the fog of uncertainty to clear up or better yet have the courage to start digging through the debris to see if there are some gems lying around.
The first point to keep in mind is to avoid anchoring to the pre-crash prices. A stock is not cheap just because the price has dropped by 90% - look at Deccan chronicle holdings. A large drop in the stock price is a good starting point, but not a sufficient condition for a bargain

The second point to keep in mind is to look closely at the fundamentals of the company. Is the company highly leveraged and with a weak business model? In addition, it is important to avoid companies with corporate governance issues.

The final point is regarding one’s own emotions and conviction. Once you have identified a good idea and believe that the market is being irrational in beating it down, it will require a lot of emotional fortitude to hold onto the stock. One is likely to get a daily dose of negativity via falling stock prices and bad news or reports about the company. It is unlikely that a company with a beaten down price is enjoying great growth and high expectations from the market. One needs to do his or her homework that the current downturn is a passing phase and the stock will give above average returns over the next 2-3 year time frame.
I am currently looking at some of the following companies. This is just a preliminary list and I may or may invest in any idea

  1. BHEL
  2. Infinite computer s ltd
  3. Manapuram finance
  4. FAG bearings
  5. Whirlpool India
  6. Eros international
  7. Tata motors
  8. Canfin homes – thanks to ayush mittal.
I am sure some of you would have rolled your eyes on reading this list. Well, I have never been the one to buy popular stocks anyway. I am usually fishing in areas where you will not find most investors.

A roller coaster ride since 2007 and negative returns since then in comparison to double digit returns in gold and real estate means that if you tell someone that you are investing equities, they think you need to be assigned to a mental institution. It is not easy to be any equity investor these days. However if you look past the gloom, then the current downturn is a decent time to pick good stocks.

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Stocks discussed in this post are for educational purpose only and not recommendations to buy or sell. Please contact a certified investment adviser for your investment decisions. Please read disclaimer towards the end of blog.

10 comments:

Lucky said...

Keenly awaiting your opinion on BHEL. This looks to be can't-go-wrong kind of stock, especially at prices below 250. Hard to believe it was one of the market darlings just a few years back.

Anil Kumar Tulsiram said...

Interesting list. I had considered BHEL in the past, but ended up liking NTPC more.... Manapurram Finance is another company on which I have started working on recently... Purely on valuations it looks quite cheap, will have a better understanding once goes through their ARs and presentations....

NR said...

My two cents:

I've bought Manappuram the first time it fell and exited fortunately at close to 40. It might be good to buy when there is panic selling in a stock, but if the promoters/ management do something enough to create repeated bouts of selling its usually good to stay away. So I think I will skip Manappuram. There could more cockroaches in the kitchen.

Tata Motors is interesting because the sell side consensus is overwhelmingly positive on the stock. Which statistically has been a warning sign, yet the stock has already fallen. It might require a great deal of effort to figure out what is the bear thesis which is creating an opportunity here. I am comfortable only when I fully understand the bear thesis before turning bullish on my own thesis. I have seen some bearish reports on the name but they haven't been convincing enough.

The way I see Infinite, their revenues are from predictable. Client concentration is not the only risk. I think their messaging platforms could be under serious trouble from over the top applications. The company is no doubt cheap, but what happens is 40% of their revenues vanish is what worries me.

FAG is a quality name and has a fairly strong competitive positioning. The only question is what incentives the MNC owners have to grow the listed business instead of INA and LuK. SKF has set up a separate plant for high value wind turbine bearings outside the listed entity, not sure if fag is gonna be different.

Not checked the other names, so not worried about anything there. I would add Thangamayil jewellery to the list.

Rohit Chauhan said...

lucky - capital goods sector is going through a cyclical downturn..nothing new, happened in 2000-2003. problem is most investors think its a new thing
even then BHEL sold for a low valuations ...but now its balance is a little bit better

rgds
rohit

Rohit Chauhan said...

anil - manapuram is curiosity for me...as of now i dont have as much confidence ..just digging through it.

however my concerns are more from their biz model ...valuation is only after that

rgds
rohit

Rohit Chauhan said...

NR - i am just evaluating manapuram. not confident about their biz model.

thangamayil - i have not been to understand it well ...find lack of cash flows worrying considering that all the profits sit in the inventory. so unable to figure this company out

tata motors - a complex story...JLR is a big piece and need to figure how that will play out

infinite has all those risk ..but question is what is the probability ? at current prices market think that the company will very likely lose top clients. i dont think so

on messaging platform ...thats a new piece ..not generating any revenue. so current valuations value it to 0

FAG is good name worth tracking

rgds
rohit

Anonymous said...

Manappuram has some serious issues,expect the pain to continue,the management has guided to problem book of 800-900 cr. for Q1Fy14 in addition to the 250 cr. interest reversal in Q4Fy13,also this 250 cr. was before gold prices crashed.

Annapurna Shastri said...

Interesting. Agree that for an optimist (and those who have patience to wait for the tide to turn), times like this provide a good opportunity to invest in companies with good fundamentals and whose stock prices have got corrected significantly in the downturn.

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Mukundan SN, CFA, CFP said...

I think BHEL has gone into corrections after the steep rise. Now it is time you can get into peak.
It is touching 50 Mark now. If it climbs above the recent peak, it is time to invest.

See the TA chart