Blue-Chip Favourites: Poster (Boys) Peeled Off The Wall

The equity market is finally behaving in a fashion that is cognizant of the macroeconomic concerns about India and is not solely focused on the GDP growth numbers. There is a growing acceptance that when related markets like bonds come under pressure, the continuous flow of domestic money won't necessarily keep the equity market propped up. Consequently, stocks that the market has judged to be of sub-optimal quality—some of which had started inching up at the start of the July F&O series—have been left out to dry again.

But, the biggest change in the last month has been the pruning of positions in names that investors saw as the most premium cream in the market. For a select few stocks, ‘high quality' acted as a magnetic shield – attracting money, and keeping skeptics at bay at the same time.

But in this most recent market sell-off, cracks have begun to appear in those shields, which are increasingly visible.

• The poster boy of the Indian auto space, Maruti Suzuki India Ltd., is down over 18 percent from the 2018-high it hit on Jul. 24, while the Sensex has been flat in the same period.
• Hindustan Unilever Ltd. is down over 8 percent in the last one month, despite the company projecting steady earnings and sales volume growth.
• The shine around Titan Company Ltd. has faded, with the stock off over 20 percent since its highs in April. An attempted pullback has been sold into heavily since mid-August.
• Bajaj Finance Ltd. is down 23 percent since its peak price on Aug. 29, less than a month back. The Sensex has lost 5.4 percent in the same period.

While the biggest correction is being witnessed in NBFCs, some of those companies continue to trade at premiums to their 5-year averages despite the fall.

Valuation Premium To Historical Average Despite Correction

Market participants are now not hesitant in saying that these ‘crazy' valuations needed to correct. Some expect more pain as the rebalancing of portfolios continues amid volatility.

The price movement of the last one month is—in a sense—bringing these outliers closer towards where the rest of the market is.

This happened in 2008 when stocks like JSW Steel Ltd. and Tata Steel Ltd. which had rallied 240 percent and 119 percent respectively, cracked over 75 percent in the following twelve months.

It is also interesting to look at what has performed well in these last three months. The fall in the currency has led to the return of information technology and beaten-down pharma stocks. Previous laggards like Wipro Ltd. and HCL Technologies Ltd. have gained since the start of July. In the midcap space, defensives like 3M India Ltd. and pharma players Torrent Pharmaceuticals Ltd. and Divi's Laboratories Ltd. have gained, where valuations were seen to be in the respectable range. But the rest of the midcap pack, especially the expensive names, have witnessed a sell-off.

• Escorts Ltd., Godrej Properties Ltd., and VIP Industries Ltd. were the most-favoured stocks in their sectors, and have been amongst the top losers since the start of July.
• Others like Symphony Ltd., Delta Corp Ltd., and Motherson Sumi Systems Ltd. have corrected at least 20 percent from their 2018 high.

So will an HUL, still trading at 50.3x P/E multiples versus the 2-year historical average of 46x, correct further? Who knows. Can a Reliance Industries Ltd., having corrected over 7 percent since mid-August, drop down to 14x P/E, its 2-yr historical average, versus the 16x P/E that it enjoys right now? Again, who knows. Will the markets be surprised if that happens? Possibly not.

The writing visible on the wall again as the star posters peel off – the party can't last forever.

Niraj Shah is Markets Editor at BloombergQuint.