Why auto stocks may be the best bet for the next 2-3 years

The auto industry has been gasping for growth for over 10 years. The different sub-segments of the industry have only grown at a CAGR of 3-6% between fiscal years 2010 and 2020, compared to a CAGR of 10-12% between fiscal years 2000 and 2010. The growth of the industry It has been affected as the fortunes of the automobile industry are closely related to the growth rate of the economy.

  • All segments posted growth in FY10 and FY11 due to government measures announced to help recover from the 2008 global financial crisis.
  • During FY12-14, high interest rates and high fuel prices, coupled with inflation, dampened business confidence, resulting in a slowdown.
  • FY15-18 saw an improvement in customer sentiment due to the appointment of a stable government. The government put a lot of emphasis on manufacturing and introduced favorable policy decisions along with a focus on ease of doing business, fiscal stability and inflation control.
  • In fiscal year 2019, photovoltaic energy sales were affected by regulatory changes, interest rate increases and high fuel prices. FY20 saw an economic slowdown globally and in India due to protectionist measures introduced by various countries. FY21 was a year impacted by Covid.

Year Growth GDP growth Year Growth GDP growth
photovoltaic 2W CV photovoltaic 2W CV
AF10 26.00% 24.00% 38.00% 7.40% FY16 7.30% -0.40% 12.00% 7.60%
AF11 29.00% 24.00% 27.00% 8.50% FY17 9.20% 3.70% 4.00% 7.00%
AF12 4.70% 13.00% 18.00% 6.20% fiscal year 2018 7.90% 13.70% 28.00% 7.20%
AF13 2.20% 0.10% -2.00% 4.50% fiscal year 2019 2.70% 6.34% 18.00% 6.80%
AF14 -6.00% 3.90% -20.00% 4.70% fiscal year 20 -18.00% -18.00% -28.00% 5.00%
AF15 3.90% 2.50% -3.00% 7.20% fiscal year 21 -2.24% -10.70% -21.00% -7.30%

(Source: Annual Reports, Equitree Capital)

For outsized returns, the best time to invest is when a sector is falling out of favor and valuations are low. Currently, the automotive sector contributes only around 5% of the total market capitalization, which is in line with its long-term averages. However, we have seen in the past that as economic growth occurs, the sector tends to go up to 9% of the total market capitalization.

ET TAXPAYERS

India’s GDP growth is likely to increase by more than 7% to meet the ambitious goal of becoming a $5 trillion economy set by the Government of India. This implies that the automotive industry should also lead to a cumulative contribution of 9% of the total market capitalization, thus creating substantial value over a 2-3 year period.

Demand collection rate
Maruti Suzuki, India’s leading four-wheeler company, said they are seeing strong demand in terms of inquiries and reservations, but due to supply-related issues, many reservations were left pending. The only remaining challenge is semiconductor supply and commodity inflation. Looking at the waiting period for many models, it is clear that the demand for cars is not challenging. Some models like Mahindra XUV700 have a waiting period of 88-90 weeks while Mahindra Thar has a waiting period of 43-44 weeks. Also, Tata Motors Nexon EV has a waiting period of 12-16 weeks while Tata Punch has a waiting period of 12 weeks.

Demand for commercial vehicles is expected to increase as projects ramp up. The government’s continued focus on infrastructure spending is causing a surge in demand for commercial vehicles. Demand will be further driven by replacement demand as fleet owners will now look to replace their older trucks. It is important to note that rural demand has not yet recovered and will be a key monitor for the overall recovery.

Export opportunity that contributes to growth
Major passenger car and two-wheeler companies have seen their exports increase mainly due to demand from Latin America, Africa and Southeast Asia. In addition to the above, global players are looking to India for parts and components as part of their China+1 strategy. We are already seeing prominent companies such as Case New Holland Industrial, the world’s fourth largest tractor manufacturer, looking to triple India’s sourcing of parts and components in value terms to more than $300 million in the next three years.

The current disruption provides an opportunity to invest from a long-term perspective
Due to supply-side constraints, from the availability of semiconductor chips to price increases in key raw materials, the auto industry could remain under pressure for a few quarters, but these quarters could also provide an opportunity for investors with a longer term horizon.

Upstream investors are always looking for companies that have managed to not only keep their heads above water during the recession, but have also achieved supernormal growth. Companies like these that manage to outperform during a downturn end up firing flat out once the cycle picks up.

Specifically, investors should look for companies that have diversified product offerings and cater to various industry sub-segments along with a focus on the export and replacement market.

(Pawan Bharaddia, is Co-founder, Equitree Capital)
(Disclaimer: The recommendations, suggestions, points of view and opinions given by the experts are their own. These do not represent the views of the Economic Times)

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