A lot of action is building up in the broader market and the small cap index in particular. Which are the stocks you like within that basket?
The broader market has been doing relatively better this year. It is better to look at midcaps and smallcaps from a bottom-up perspective because very few themes are panning out. Sugar is one example where most of the stocks are from the midcap or smallcap domain.
Brazil’s sugar production is expected to come down by 20 per cent, which will lead to higher global sugar prices. About 15 per cent of the revenues of sugar companies come from ethanol and as blending increases, the revenue contribution of ethanol to overall sales will improve to nearly 30 per cent. It is a higher ROC business and all these sugar companies are trading at mid-single digit multiples. Deleveraging is also on the cards. So this is one theme that can be looked into. The price performance is already there in some stocks but with structural changes, you will see further upside.
In pharma, stocks like Caplin Point Laboratories, Indoco Remedies and Advanced Enzyme look attractive to us from a bottom-up perspective.
In capital goods, there are some picks which can be looked at. For example, we like Action Construction Equipment. Although the stock has not really done so well, but their cranes are in demand for infrastructure activities. As and when things normalise, companies like this should do well. A lot of road players are also expected to do well once things normalise in this Q2 onwards.
I think this is the year of midcaps and smallcaps. The broader market will continue to do better than the rest of the pack.
What is your view on the tremendous rally that we have seen in global commodity prices? Do you believe that the traction in metals is likely to continue?
The metal index has doubled in the last six months. Last week, it was up about 10 per cent. If China is not going to produce much, then the constraint on supply will remain intact and prices will remain at elevated levels. It is structurally very positive for all steel players. We have seen a significant amount of balance sheet improvement in all Tier-I players like JSW, Tata Steel and SAIL. All these three companies are likely to produce 18 to 19 billion tonnes of steel domestically in FY22, which should translate into an operating EBITDA of nearly Rs 45,000 crore. Tata Steel has said they will be looking to pare down their debt by a billion dollars. SAIL can become debt free over the next 12-15 months. We are not looking at changing the EV (enterprise value) multiples, but as and when their debts reduce significantly, you will see more appreciation in prices. I will not be surprised if SAIL touches its previous record highs. This is one particular cycle which is looking attractive.
There are pockets which have not performed. Graphite India looks better structurally because melting scrap is an efficient way of producing steel and is also more environment friendly. Overall, the commodity cycle looks good. We have a target price of Rs 1,500 for Tata Steel. For the rest, we will keep revising as and when the results come out.
