Defensives steal the show in April-June quarter

Given the uncertainty, analysts say there is more room for an upside despite steep valuations.

Economic and political developments across the globe have kept the markets, including ours, on the edge in the June quarter. Given the uncertainty, investors have shunned high-beta names for safer and trusted defensive bets to ride out of the storm.

Stocks from the fast-moving consumer goods (FMCG) and pharmaceutical companies continued their upward march for the third quarter in a row despite steep valuations. The rising investor interest for these so-called “safe havens” took the BSE FMCG (up 11 per cent) and Healthcare indices (up 4 per cent) close to their lifetime highs in the June quarter, vastly outperforming the Sensex which remained flat in the same period.

Both the indices had surged more than 11 per cent each in the March quarter, while they gained between one-three per cent in the December quarter.

Investors flocked to defensive stocks as most of the interest rate-sensitive stocks have been hammered due to poor financial performance and growth concerns, analysts say. Typically, defensive stocks hold up in hard times because demand does not decrease as dramatically as it may in other sectors, they suggest.

“Generally, large investors seek refuge in FMCG stocks as defensive bets, since it’s difficult to hold cash in balance sheet due to accountability to the stakeholders,” said Kishor Ostwal, chairman and managing director, CNI Research Ltd.

ITC, Godrej Consumer Products and Emami from the FMCG pack and Strides Arcolab, Wockhardt and Ajanta Pharma from the pharmaceuticals space have rallied more than 10 per cent in past two consecutive quarters on the back of robust financial performances. (See table: Up, up and away). According to rating agency ICRA, Indian generic players are likely to benefit from patent expiries in 2012; the domestic formulation business is likely to maintain healthy volume growth as emerging markets are expected to offer strong growth opportunity.

“The Indian pharma sector will continue to outperform in the near future, despite stocks being reprised with risks to the global economy and uncertainty that may drive markets for some time. Indian growth prospects in domestic and export markets remain strong relative outperformance,” says a pharma analyst with a local brokerage.

However, most analysts feel defensive stocks have run up ahead of fundamentals. The BSE Healthcare Index currently trades at 45.33 times average P/E (price-to-earnings) ratio, while the BSE FMCG Index is hovering at 35.64 times. This is as compared to the benchmark Sensex, which trades at 17.02 times.

“FMCG stocks are trading at extremely high valuations. However, considering the current market conditions and lack of investment opportunities, the investors are continuously chasing FMCG stocks,” said Jagannadham Thunuguntla, strategist and head of research at SMC Global Securities.

Even though gross margins were adversely impacted due to incessant increase in input costs, FMCG players have taken judicious price increases without losing market shares and major slowdown in volume growth, which is vital. “If the current bearish market conditions remain, these stocks can rally further from the current levels,” added Thunuguntla.