Contrarian bets

As you would have seen, I prefer a contrarian approach to bet on stocks which most wouldn’t want to touch at that time. And this preference comes from my experience that most of the participants in today’s market are traders rather than investors. Even in the investment shows focusing on the so-called long term investor, on the channels, the first question that the anchor asks the caller is “What is your time horizon?” In my book this question should really be insignificant when u are buying a stock provided you are personally convinced about its merits and are willing to hold on for 3+ years, ideally more if u are an investor. As Warren Buffet said “You want to be greedy when others are fearful and fearful when others are greedy." He was firmly convinced that your wealth would grow in proportion to the company’s own growth if u stuck with it thru the ups and downs. Of course, you should be personally convinced of the merits of the stock from various angles before this philosophy applies. I have realized that stock market investment is not a short-term game and compounded returns of 15-20%+ are available provided u are patient enough to hold on for the long haul. For e.g. take the case of Berger Paints, a fundamentally sound stock, though not a very prominent name in the Paints segment. It was quoting at 120 in Oct’ 03 (pre-stock split). Since then it has given 2 bonuses in the ratio of 1:2 and 3:5. So if u had bought 100 shares then, u would have 240 shares now at a holding cost of just Rs. 50. And today it is quoting at Rs 1140 (adjusting for the stock split from 10 to 2). You can do your own calculations and see. There are many such examples, Godrej Consumer being another one in the same class. And it is not as if these companies did not go thru ups-and-downs in this period. Sure they did, but if u had read the management commentary in their annual report and seen their record over a few years of ups and downs, you would have seen that they would come out better when the cycle turned. They invested in new capacities and bought over companies which complemented their own products. And when the cycle turned, they were there to capitalize on it.

Having said all of the above, the question u might ask is whether there are any stocks in today’s market which fit the above logic. Sure there are and there always will be. There are only 4 things which u should really look at – management quality, past record, business the company is in (companies with a moat are the ones which operate in niche segments which makes it difficult for others to penetrate their market share), and the current state of the company’s sector. The first 3 filters passed, the last one is the key to identifying good companies who are beaten down purely due to the sectoral sentiment. So here goes my take:

Wockhardt – A few months back, this stock could do no wrong and every fund manager worth his/her name was bullish on it. And not without reason either. They had weathered the huge storm which had threatened the very existence of the company a couple of years back. From the lofty 4 digits the stock used to quote, it started moving only 1 way – down. And what a fall it was. At one time, it didn’t look like it would ever stop falling. But stop it did at 75. And from there it reversed direction and went only 1 way, thanks in no small measure to Khorakiwala who steered the socking ship and not only steadied it but also beat the storm hands down. In a couple of years from the historical lows, the stock was a multi-bagger (from 75 all the way to 2000 in 2 years or thereabouts). And then all hell broke loose.

US and UK regulators during their periodic reviews/inspections found deficiencies in the plants which supplied a bulk of the products being supplied to these countries. Warnings followed and the market was quick to punish it strongly for these lapses. From 2000, it came all the way down to 350 in a matter of weeks and has since recovered somewhat to 465 currently. In all 3 of its plants have been warned. So what happens now?

Already the management, again led by Mr. Khorakiwala and his children (Murtaza who is the MD and his sister Huzaifa who is the ED), has taken concrete steps to correct these anomalies. They have appointed U-based consultants to advise them on the best practices to be followed to be again compliant to US and UK regulations. Granted that this will not happen overnight, but over the next year or two, things should come back to normalcy, if the management record is anything to go by. If they have done it once, they surely can do it again. And they won’t have to think back too far as to what worked for them the last time around, for it was only a few months back that they had brought back the lost glory to Wockhardt.

If Wockhardt even doubles in the next 2 years or so on the back of the measures taken by the management (and probably sooner) it should make for a good enough return. It is the same management and the same facilities which led their meteoric rise from the ashes, and there is no reason why it can’t happen again.

The other troubled stock currently in the news for all the wrong reasons is MCX. This was more of a collateral damage since there is no direct problem with MCX per se. MCX is a market leader in India’s burgeoning commodity derivatives market. And it has held on to its market leadership position, with a share of 82- 87% over FY09-12. It is only that another exchange NSEL run by the same promoters has run into trouble over findings of siphoning off funds, cheating and defrauding investors of the money they had put in the contracts on NSEL. It was found that these contracts, esp. quite a few of the big-ticket ones, were backed inadequately or not backed at all with the corresponding physical stock in the warehouses. And the management of NSEL was found to have lent money to the investors against all norms. Some of the people in the management are behind bars while others are being investigated in detail.

While it may be true that Jiggibhai and co. have not done a clean job in the case of NSEL, the same can’t be said for MCX which is well regulated (in the case of NSEL, there was the fundamental question of who is the regulator with each body passing the buck to the other). A year back, MCX was quoting at about 1600 and after the NSEL scam, it crashed to about 700 in July. And from there it is quoting at about 445 now.

If you go by the MCX shareholding pattern, more than 55% stake is held by institutional investors (PSU banks, private sector banks, FIIs). It is quite possible that at some point of time, FT, the current promoter with 26% stake, will be forced to exit from the MCX (already FMC has questioned the fit-and-proper status of the promoter) and once this happens, it will likely go into strong hands. This trigger could happen post the response of FT and Jignesh Shah & Co. to the fit-and-proper notice sent by the regulator FMC. Already, government has taken control over the board of MCX via independent directors and institutional investors.

The opportunity for growth for MCX remains huge given a much lower derivative turnover/total physical flow multiple of India versus the developed markets. For instance, gold turnover on MCX is just 15x of the total physical flow in the economy versus 75‐85x in the developed economies. Similar is the case for crude, aluminium, copper among others.  

Also, once MCS-SX starts functioning in right earnest on the equity side, and with a string management in place, things should start looking for MCX. While it may not touch the heights of 1600 that it did last year in a hurry, it should give excellent returns in the coming months once clarity emerges on the on-going issues.