Performance of sectoral indices in 2022: There’s more bad than good

Of the 15 sectoral indices tracked on the BSE, only seven have delivered positive returns over the past year. Picking up underperforming stocks now may be better than going for multibaggers.

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Despite the upbeat drumbeat surrounding the equity markets amid growing expectations that central banks will slow down their pace of interest rate hikes, crude and commodity prices will soften, and the Dollar index and yields will decline, sectoral indices have delivered a mixed performance.

Of the 15 sectoral indices tracked on the BSE, only seven have delivered positive returns while eight have delivered negative returns over the past year — from the peak of October 2021 to December 2022 (till date).

Light at the end of the tunnel?

“The underperformance of a sector is driven by changes in the underlying dynamics of the sector, regardless of the market price,” says Abhishek Jadon, smallcase manager & VP – Windmill Capital. The poor performance of sectors like IT and realty has been due to several headwinds, both local and global, he added.

Jadon does not see things going well for IT in the near term, and feels the consumer durables space too will remain under pressure. “Given IT companies’ heavy exposure to north America and Europe, which are on the brink of a recession, their prospects seem sombre and until such headwinds subside, reversal seems unlikely. The IT sector can show some price reversal if the entire market moves sharply,” he said. He expects IT heavyweights TCS and Infosys to see funds inflows following broader market buying.

However, Nikhil Gangil, smallcase manager & Founder, Intrinsic Value, has a different take. He believes that, “The IT sector completed its upcycle in Feb-March 2022, and with valuations hitting the sky, there was very little head room for stock performance even if the business performed.” He is of the opinion that “even the best of IT will continue to underperform in the coming year, while mediocre firms may even crash, creating opportunities for value investors.”

According to Gangil, the realty sector follows a multi-year cycle and we have only seen the initial part of it. He believes that realty and consumer durables will continue to perform, and added that the valuations are fair now. He recommended a `hold’ for both sectors.

Jadon also sees light at the end of the tunnel for realty. The demand for home loans has been resilient in spite of rising interest rates. “Investor confidence in this sector can be corroborated with the growing interest in Real Estate Investment Trusts (REITs), and also because commercial, residential, as well as retail real estate seem to be gaining momentum simultaneously,” he added.

Kavalireddi feels that on the consumer durables side, with the onset of summer, refrigeration and air-conditioning firms could see some respite as commodity prices stabilise and demand grows. “Investors with a 6-8-month view can look at the consumer durables segment”, he added.

Are current sectoral trends likely to continue?

Experts believe that current trends may sustain or consolidate at this level, unless headwinds subside.

“The performance of the sectors will play out per the emerging demand in the economy and corporate profit trajectory,” said Rego.

Investors generally don’t buy just because something is cheap. If the long-term story is bleak, cheap sectors / stocks usually take a long time to recover. “Our opinion is that as and when things unfold, especially on the global side, sectoral valuations could change,” added Jadon.

Experts believe banking and auto stocks will lead because of rising interest rates, expanding credit, and high-end discretionary consumption. The investment expansion cycle has begun and PLIs (Production Linked Incentive) are supporting the consumer electronics, automobile, pharmaceutical, textile industries (among others), so they might see some uptick.

“In times of uncertainty we recommend sticking to sectors with tailwinds and being selective about stocks from other sectors,” said Rego.

Intra-sectoral divergence

There have been many instances where stocks within the same sector have displayed a huge divergence in performance. In the auto sector stocks like M&M (Mahindra & Mahindra) and Eicher Motors have performed exceedingly well, while the old favourite, Hero Motocorp lurks far behind. In fact, the auto sector has been one of those pockets where intra-sector divergence between companies has been widening for a while now. What could be the reason for such huge divergence?

“The reason for this is that different auto companies cater to different market segments, which determines the prospects of that company,” explained Jadon. Aided by the festive season, Eicher Motors has been able to sell more motorcycles till date than in the previous year. Their premium offerings, coupled with higher price points and lower raw material costs, has helped business performance, and taken the stock to near all-time highs.

Though Hero Motocorp also saw its raw material prices cool, their problem is lacklustre demand in export markets like Nepal and Sri Lanka. Further, “Hero’s domestic strength lies in the affordable two-wheeler segment,  and it derives ~50 percent of its topline from rural markets, which have been witnessing slowing demand for some years now with no signs of recovery,” added Jadon. Also, investors are skeptical about the success of their e-motorcycle, which is priced at a premium.

In the case of M&M, their performance has been driven by their product-market fit. According to Jadon, “the way in which M&M has cracked the SUV market in India with their incredible back-to-back launches is no mean feat. This has contributed substantially to their profits.” Besides, M&M has ~41.5 percent share in the tractors market, which has begun to see signs of demand recovery.

Pharma firms have also shown a divergence in performance. The margins of Dr Reddy’s Labs (DRL) and Cipla have grown both on an on-year and sequential basis during the September quarter. On the other hand, the margins of companies like Divis Labs, Aurobindo Pharma, and Zydus Life have declined both on-year and on-quarter. Divis currently trades marginally higher than its 52-week low. Sun Pharma’s margins were more or less flat.

Going for underperformers now would be better than going for stocks which have already become multibaggers, say experts.  “This holds true for API and generic pharma. While API companies have peaked, generics have not even started their rally,” added Gangil.

Like Auto and Pharma, the blue-eyed boy of the India Shining story, the IT sector too displays a divergence in the performance of its stocks. While TCS, Infosys, HCL, and Persistent Systems are trading ~10 percent below their 52-week highs, Wipro, Tech Mahindra, and Mphasis have tanked ~40 percent from their 52-week highs. L&T Technology Services, L&T Infotech, and Coforge are down ~30 percent.

Wipro gave a subdued revenue guidance, while experts have downgraded the earnings for Tech Mahindra, which is reflected in their stock price. The management commentary and deal wins for TCS, Infosys, and HCL were strong and experts believe that is likely to reflect in their performance in the ongoing quarter. Hence, these stocks have moved up.

Persistent Systems delivered strong revenue and margin growth during the September quarter, which was a positive surprise for the street. The company has guided that the growth will continue in the third quarter as well.

Disclaimer: The views and investment tips of investment experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.