After reaching their peak in FY19, automobile stocks have been major underperformers in the last two years. Such has been the selling in these stocks during the pandemic that it has weighed on the auto index’s performance on timescales of three years, five years and ten years.
Though the jitters are understandable, they underline that investors have largely shied away from the sector because of concerns over supply-side bottlenecks, low uptake in consumer demand and pressure on margins from high raw material costs.
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However, with economic recovery and rural revival because of improved cash flows, hope is emerging among investors that the sector could stage a mini-turnaround going ahead.
HDFC Securities believes that after having sharply corrected from its peak in FY19, passenger vehicle (PV) and commercial vehicle (CV) segments have rebounded in FY22 on a low base, while two-wheelers (2W) posted a third year of double-digit decline and hence expect auto demand (across segments) to revive.
“We factor in 17/16/18% volume CAGRs (compound annual growth rates) for 2Ws/PVs/CVs over FY22-24E.”
Given the sharp sector underperformance and expectation of a volume rebound, the brokerage believes the risk-reward would turn favourable for the sector and prefers two-wheelers followed by passenger vehicles and then commercial vehicles, based on valuation comfort.
Hero MotoCorp, TVS, and M&M are their top picks amongst original equipment manufacturers (OEMs), while Ashok Leyland is the top sell.
The brokerage is overweight on two-wheelers as they are best placed to scale up EVs on the back of their established ecosystem, including supply chains, dealer network, and customer connect. Policies like PLI also support larger players and give them an added advantage over existing players.
The brokerage’s second choice is PVs as the demand remains resilient. They expect the sector to post 16% volume CAGR over FY22-24E. While Tata Motors, Kia, and MG have had decent market share gains in the PV segment in the last couple of years, Maruti Suzuki and M&M are expected to recoup a part of their lost share in the coming years on the back of healthy launch pipelines.
According to their note, they remain underweight on the CV sector as the risk-reward remains unfavourable and expect the CV cycle to be in an uptrend for just the next 2-3 years on a low base, given the government’s infrastructure push.
Going ahead, while all three segments are expected to post double-digit volume growth over FY22-24E, near-term margins may remain under pressure due to a sustained cost increase. But the brokerage believes that with the expectation of a volume rebound, investors are likely to turn constructive on the sector and recommends accumulating stocks that would provide valuation comfort and have bottomed out.
CHIP SHORTAGE FAR FROM OVER
The report also highlights that the ongoing geopolitical crisis continues to trigger multiple headwinds as the Russia-Ukraine war has serious repercussions on the demand-supply dynamics of commodities (including oil, aluminium, coal, natural gas, steel palladium and platinum) for which either of these two regions is a key global supplier.
Also, this crisis is now expected to aggravate the chip shortage glut in CY22. Russia is a key supplier of palladium (40% of global requirement) used in chip manufacturing, while Ukraine is the world’s largest exporter of neon (50% of global requirement), a gas used in lasers required in chip manufacturing.
EV ADOPTION TO GAIN GROUND
Another key theme to watch out for is EV adoption. While EV transition in scooters may gain ground (25% penetration by FY25), HDFC Securities believes that large OEMs would emerge as dominant players even in EVs, amid favourable government policy and their sustainable advantage over small OEMs, given their established ecosystem.
“We also believe that EV transition for the personal use in India would take longer (expect 3-4% penetration by FY25E), given several adoption challenges.”
STOCK VIEW
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Hero MotoCorp: The brokerage initiated coverage on the stock with a BUY and a target of Rs 2,825 per share. Market share revival in domestic motorcycles and ramp-up in exports are likely to be key upside triggers for the stock. At 11.8x FY24 PER, the valuation is attractive. The stock has risen 9.8% in the last month. According to Trendlyne data, the consensus recommendation from 40 analysts for the stock is BUY.
TVS Motors: The brokerage has initiated coverage with a BUY rating and a target price of Rs 778. TVS has outperformed the industry in most of the segments it is present in — gained market share in scooters over FY17-22, 700 bps share in the 150-25 0cc motorcycle segment, outperforming in the exports for nine years. Even in EVs, it seems to be ahead of its listed peers with a strong product pipeline in place.
The stock has also had a consensus buy rating from 39 analysts and has risen 99% in the last 2 years.
Mahindra and Mahindra: HDFC Securities remains optimistic about M&M’s aggressive future road map (target of 15-20% growth CAGR over 2025) and focus on achieving 18% RoCE. The brokerage initiated coverage with a BUY rating and a target of Rs 1,065.
The stock has risen 10% in one month and has gained 150% in the last two years. It remains a strong buy from 40 analysts, according to Trendlyne. “M&M is expected to maintain its tractor category leadership. Given its solid product pipeline, the company is expected to regain some of its lost market share.”
Ashok Leyland: The brokerage has initiated coverage with Sell rating with a target of Rs 96. It is of the view that the previous peak margins for the CV industry and, especially for AL, are unlikely to be achieved, given the inability to pass on recent sharp rise in costs fully and AL, which gained share in the last cycle, now needs to recoup the lost share.
Among the remaining companies, the brokerage likes Maruti Suzuki and Eicher Motors. However, for Tata Motors and Bajaj Auto, it believes that most positives are already priced in and hence has given a ‘Reduce’ rating to the stocks.
(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)
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