Apathy towards Pharma stocks
Pharma stocks were so much at the bottom of barrel that nobody wanted to touch them with a barge pole.
This is because of the savage crackdown by USFDA, cut-throat competition, high R&D expenses and price erosion.
The earnings of US-focused Indian pharma companies slumped 30% over FY18.
The NIFTY Pharma index kept pace and slumped ~30% over three years.
One can gauge the extent of apathy amongst investors from the fact that even Kenneth Andrade of Old Bridge Capital, who is renowned for his visionary and contrarian stance, was dismissive about them.
“There is no compelling case to buy Pharma stocks”, he said in his latest interview.
(Image credit: ET)
Pharma stocks surge like rockets
However, a sudden change in fortunes has caused Pharma stocks to surge like rockets.
They have surged up to 30% in just the last few trading sessions.
Pharma Sector #buzzing
Take a look at Pharma Co's that have gained between 10-30% in last 7 trading sessions#equity #stocks #Pharmaceutical @deepdbhandari @szarabi @MuralidharSwami @stockgurupiyush @Geetu_Moza @Heeraal @SwatiKJain pic.twitter.com/TygJgleKGB
— BTVI Live (@BTVI) June 13, 2018
It is a relief rally for Pharma stocks or is the rally here to stay?
MNC Pharma stocks continue to outperform Indian peers
Despite rally most pharma stocks 50% lower than all time high
Valuations for Largecap still rich
— Darshan Mehta (@darshanvmehta1) June 13, 2018
— BloombergQuint (@BloombergQuint) June 13, 2018
Sun Pharma's VAI on Halol sparks of a rally in all pharma stocks. Barring Sun & Biocon that are 10% away from 52WH, most other pharma stocks are 15% to 30% away from 52WHs. But, interestingly most (except Auro) are close to their historic 1 year forward PEs (except for Auro)
— Ekta Batra (@ekta_batra) June 12, 2018
FY19 may be “comeback” year for pharma stocks
The wizards at HDFC Sec have done a systematic analysis of the situation presently prevailing in the Pharma sector and have explained the risks and rewards of investing in Pharma stocks.
According to them, FY19 may be a “comeback” year for pharma stocks.
The reason for this prognosis is because of three factors:
(1) Actual and likely regulatory resolutions of the USFDA,
(2) Moderating price erosion and
(3) Several product launches across generic and specialty categories in 2HFY19.
It is also opined that earnings have bottomed out, while the base is favourable.
Never seen such low valuations in past 25 years: Madhu Kela
Madhusudan Kela, who is regarded by the intelligentsia as a visionary stock picker, has come out with all guns blazing in favour of Pharma stocks.
It is worth recalling that Madhu Kela’s erstwhile employer, Reliance Mutual Fund, benefitted enormously from his stock picking expertise.
The Fund bought truckloads of Divis Labs at throwaway valuations and is sitting pretty on mega multibagger gains from the stock.
Madhu revealed that he also personally holds a chunk of Divis Labs in his portfolio.
He explained that the downfall in the Pharma stocks in the recent past had come about due to the USFDA crackdown as well as frothy valuations.
“The valuations surged from Rs. 1 lalk crore in 2008 to 10 lakh crore and now it has slumped to Rs. 5 lakh crore,” he said, highlighting the excessive wealth destruction that the sector has seen.
“However, none of these companies have ever suffered a loss,” he said, emphasizing that their fundamentals are of pristine quality.
“Some of these companies are now available at 1.5x book value. I have never seen such valuations in the past 25 years,” he exclaimed.
Buy a portfolio of Pharma stocks
Surabhi Upadhyay rightly asked Madhu how to construct a winning portfolio of Pharma stocks.
Madhu advised that it is best to have a mixture of large-cap and mid-cap stocks. While the large-cap stocks will provide stability, the mid and small-cap stocks will provide hefty returns.
He heaped rich praise on Divis Labs and explained that the fact that it was able to resolve a complex FDA problem within a short period of a few months speaks volumes about the competence of its management.
He also revealed that Divis is likely to expand shortly and said that this will provide growth in sales and profits.
He also advised investors to tuck into a Pharma stock which is unknown and “off the radar” because that will provide the much needed multibagger gains.
Madhu did not name any such “off the radar” company.
However, according to my top-secret sources, he holds a big chunk of 13,85,599 shares in an unknown micro-cap known as ‘SMS Pharmaceuticals Ltd’.
We will have to keep SMS Pharma on our radar.
Best pharma stocks to buy now
HDFC Sec has conducted an elaborate analysis of the strengths and weaknesses of all the well-known Pharma stocks.
Sun Pharma, Lupin, Cadila, Aurobindo Pharma etc have been given a clean chit and recommended for buy.
Dr. Reddy and a few other laggards have been condemned to a ‘neutral’ stance.
Hot Money | Aurobindo Pharma gets thumbs-up from experts despite muted Q4.@darshanvmehta1
— BloombergQuint (@BloombergQuint) May 31, 2018
DB on Aurobindo Pharma: Minor blip, biz outlook remains +ve
Maintain Buy, TP revised to Rs 728 from Rs 849
Trading at an attractive PERof c.14x FY19E (a disc of more than 30% to Indian peers
Believe risk-reward appears favorable @ekta_batra @CNBCTV18News
— Nimesh Shah (@nimeshscnbc) May 30, 2018
The sleuths at ET have also been hard at work in trying to flush out the best Pharma stocks to buy now.
They have homed in on the following five stocks:
(i) Sun Pharma
Clearance of Halol unit by US FDA has fuelled gains in the stock.
Gaurav Dua of Sharekhan said a lot of negatives are now priced in.
“We upgraded Sun Pharma to buy from sell after Q4 result as many negatives are priced in. There are still pricing pressures in the US but intensity of pressure is easing. It also has a strong product pipeline,” said Dua.
Approvals in the developed market and traction from emerging markets (EMs) are leading to positive sentiment in the stock.
“Biocon is getting approvals from the developed world and is also getting traction from EMs in biosimilars. Syngene and biologics form about 50% of the turnover for FY18 and they will be the main drivers for Biocon,” said Siddhant Khandekar, analyst at ICICI Securities.
(iii) Alkem Labs
Saurabh Kumar, Vice President at Motilal Oswal Financial Services said 15-20% return is easily possible from Alkem shares.
“It’s India business will continue to grow at mid-teens, margins because of profitable growth will go up and tax rate is also likely to come down in FY19,” said Kumar.
(iv) Ajanta Pharma
Kumar of Motilal Oswal favours the stock because of attractive valuations.
“The stock has corrected and now trades at 15 times forward earnings. FY19 is likely to be muted du to challenges in US and emerging markets business but from FY20, growth will again become normal,” said Kumar.
(v) Divis Labs
Analysts said there is still money to be made in the stock.
“It is a niche specialised API player. It had some regulatory issued which are behind us. The stock has always traded at a premium because of better than industry growth,” said Dua of Sharekhan.
Prima facie, we are already late to the party. However, given that the party has a long way to go, we should urgently tuck into the best Pharma stocks without any further delay and wait for the gains to gush in!