Covid-19 has accelerated the adoption of digital technologies which augurs well for the IT sector. In the case of pharma stocks, the pandemic has improved the outlook as investor focus shifted to covid 19-related opportunities
MUMBAI: The year 2020 is coming to an end and we continue to cope with the havoc that the covid-19 pandemic has wreaked. But the Indian stock markets are in euphoria. The Nifty 50 index has staged an impressive recovery from the lows seen in March, touching a new high on Monday. So far this calendar year (until Tuesday), the index has risen 14%.
Going by the top ten stocks that have generated stellar returns in 2020, it has clearly been the year of IT (information technology) services and pharmaceutical companies, among large stocks.
Divi’s Laboratories Ltd is leading the pack, having appreciated as much as 105% in value on a year-to-date basis. In descending order of returns generated, Divi’s is followed by Dr. Reddy’s Laboratories Ltd (80%), Cipla Ltd (73%), Infosys Ltd (71%), HCL Technologies Ltd (65%), Wipro Ltd (57%), Asian Paints Ltd (51%), JSW Steel Ltd (41%), Sun Pharmaceuticals Industries Ltd (37%) and Tata Consultancy Services Ltd (TCS, 36%). Numbers in brackets indicate year-to-date gains in the share prices.
So why have IT and pharma companies done well this year? It is simple.
Covid-19 has accelerated the adoption of digital technologies. Naturally, this augurs well for the IT sector, helping companies companies in the space win large deals. Further, profit margins have got a boost. In a report on 15 December, Credit Suisse analysts wrote, “The current pandemic has also helped the margins of the top four firms with the reduction in travel and other overhead costs."
What’s more, some portion of the margin gains may well be retained from a medium-term perspective. “While some of the margin benefits will fade with the expected cost reversals, we are modelling margin expansion (from FY20 levels) for the top four firms by FY23 as some of the cost pressure can be compensated by a pick-up in revenue growth," point out Credit Suisse analysts. Note that shares of Infosys, TCS, Wipro and HCL Technologies have all touched new 52-week highs this month.
As far as pharma companies are concerned, the pandemic has improved the outlook, as investor focus shifted to covid-19 related opportunities. What has also helped is that the sector was under-valued at the beginning of 2020, say analysts. Even so, going ahead, the sustainability of the contribution from covid portfolio remains a key monitorable. Further, the pharma sector was also immediately categorised as essential services and experienced relatively lesser disruptions owing to the lockdown.
Financial performance of pharma companies has been encouraging this fiscal year. “Indian pharma continued in the September quarter from where it left off in the previous quarter with companies posting a strong sequential recovery across segments and all companies under coverage (ex-Lupin) witnessing an earnings upgrade/no meaningful cuts to estimates," said analysts from JM Financial Institutional Securities Ltd in a report on 24 November.
The top gainer among the Nifty 50 companies, Divi’s Laboratories, a leading manufacturer of Active Pharmaceutical Ingredients (API), finds itself in a sweet spot in a post-covid world.
In a report on 8 December, analysts from ICICI Securities Ltd wrote, “Over FY20-FY23E, we expect it to register an even stronger growth of 20.8% considering the recent capacity addition, likely market share gain in existing products backed by cost advantage through continuous process improvement, significant growth uptick in nutraceutical products after Covid-19 and increasing demand for APIs/CRAMS from India with India becoming a preferred destination for manufacturing."
As things stand, given the sharp rally these stocks have seen, valuations are not cheap. Needless to say, disappointments on lofty expectations may well come as a rude awakening for investors.