Have a holding strategy for contra calls

Fundamentally strong companies, facing tough times, can make for good investments

The stock of Reliance Communications is down 97 per cent, the highest drop amid BSE 200 stocks, from its all-time high of ~844. Should you buy it? Most analysts would be wary of recommending this stock after downgrades from credit rating agencies CARE and ICRA.

On the other hand, Suzlon Energy, down 96 per cent, secondhighest drop among BSE 200 stocks from its all-time high, is beginning to find takers. On May 22, HDFC Securities gave a ‘buy’ recommendation for the stock with a target price of ~25. K R Choksey, another broker, has given a more ambitious target of ~32. For investors looking to take a contra call in this market, Suzlon might be a good bet.

While the BSE Sensex has hit 31,000 points, a lot of stocks are trading well below their all-time highs, both for fundamental reasons and temporary problems being faced by certain sectors.

A contra call is simple: Buy when everyone is selling and sell when everyone is buying. Says Raghavendra Nath, managing director, Ladderup Wealth Management: “A contra call is more like value investing, which is doing so in a beaten-down sector which can see positive movement in future.”

Typically, contrarian calls come into play when markets are beating down certain sectors or companies. These have good business opportunities but are facing the brunt of slowdown in the economy or some change in policies. So, a good company’s share price might be falling consistently but investors, following herd mentality, stay away because they are afraid of further losses. As Benjamin Graham, father of value investing, has said: “Contrarian investing is not about betting against the crowd. It’s about having an independent mind.”

Investing strategy in contra

calls: For the brave-hearted, it can be a huge lump sum in a particular stock or fund. For those wanting to bet, yet unable to commit fully, go for small quantities like a systematic investment plan in these stocks or sectors. If the stock or sector keeps falling over an extended period, it will give you an opportunity to accumulate at lower prices. The method is known as cost averaging.

For those looking to bet on a sector, Feroze Azeez of Anand Rathi Wealth Management advises sector funds being beaten down. “If you are a sophisticated investor, look at pharmaceuticals and information technology (IT) sector funds. You can put your money in these. It could be relatively profitable. When you buy a fund, you will get the sector’s impact,’’ he explains.

Depending on risk appetite, you can invest 15-20 per cent of the portfolio in contra stocks. It is advisable to start with a smaller weight and increase it gradually, rather than investing at one go.

Sectors: Experts say pharmaceuticals and IT are beaten-down sectors. “Both have good valuations and were very good sectors earlier. They are not doing well at this point. We have advised select companies in these sectors,” says Rakesh Tarway, head of research, Reliance Securities. He advises investors entering these to stay invested for 12 to 18 months.

There are several issues facing these sectors. Pharma is facing headwinds due to the US Food and Drug Administration’s (FDA) rejection of medicines from some plants of Indian companies. With a number of companies largely dependent on the US market for revenue and profit, it hurts these companies badly. The IT sector is facing a structural problem. And, US President Donald Trump’s immigration policies are expected to hit Indian IT companies. Also, they have not made as much progress in the emerging areas of digital and Artificial Intelligence. Says Dharmesh Kant, head of retail equities, Motilal Oswal Financial Services: “If the rupee appreciates to over ~64 to a dollar, IT stocks could fall 10 per cent again. And, given the improvement in India’s macroeconomic conditions, the rupee is likely to strengthen. That is why while one or two stocks could be outliers, taking a call on an entire sector as contrarian is not advisable.’’

Risks in contra calls: However, contra calls are not everybody’s cup of tea. Besides the call going wrong, the waiting period could wear you out. Nimesh Shah, MD, ICICI Prudential AMC, warns such investment should ideally be considered only by those with a moderately high-risk appetite and longterm investment horizon. “Contrarian calls take time to pan out favourably, sometimes testing one’s patience through the course of investment,” he says. Sometimes, it might take a few years before the call pays off but then a great call can also ensure you needn’t ever work for a living.