CDMO and Generics the next pharma growth pillars: Gurmeet Chadha

"People have got some bit of consolidation in last six-nine months. So, you have to readjust to the new normal. You cannot make 25% returns when you are at 21 times earnings. So, have a more balanced allocation in terms of your portfolio, include some long-dated bonds, add maybe a bit of a flavour of gold, and be a little modest in terms of expectations," says Gurmeet Chadha, Complete Circle Consultants.

Give us your broad sense on where you are seeing the market headed right now because so far, at least when the markets, the benchmarks were lacklustre, you had the broader markets that were leading the move and giving some hope or on the flip side, if the broader markets were subdued, the benchmarks were doing something. Today, both of them are down and out. Give us your sense of where do you think the next hope of green in the market could emerge?
Gurmeet Chadha: See, couple of things you have to see. One, our corporate profitability to GDP is now nearing all-time high. We are at almost 4.7%. The last time this had touched 5% was 2007-08. So, corporate profitability despite earning growth being mediocre is now at about 4.7% to the GDP. So, if you see last quarter earnings also, broader market, this I am talking about Nifty 500, so broader market was about 11% plus earning growth.

So, if this quarter we do slightly better, then markets could sustain these levels because you are at 21 times forward earnings, so the market is not cheap. So, the earnings are extremely important. Market is also a little bit nervous on the US trade deal and what happens before 9th of July, so that event should play out over the next few days, so that is something the market would look up to and then maybe some of the sectors which have been impacted by tariffs whether it is auto, whether it is textile, whether it is selectively pharma, and host of other sectors will take more direction there.

Thirdly, most importantly, we are seeing a bit of pickup in the rural demand, that is evident in two-wheeler numbers, that is evident in farm equipment and tractor numbers, that is evident in commentary you listen to some of the fertiliser companies, etc.

So, that is one good part of it. And historically, whenever monsoons have been 5% or 6% above normal, agriculture GVA is around 6%. So, it is about 2% higher than the long-term average which is 4%, which is a good sign, because we had a very soft rural economy for almost couple of years.

So, now, the rural economy is coming back. Urban is still soft, probably needs a little more boost other than the rate cuts by RBI and maybe some GST cuts would come.

So, the second half of the year could be better, but provided as I said, earnings play out and we do not have tariff issues. Secondly, most importantly, we have to reset our return expectations and we have been saying this for a while, we will not get 25-30% returns now.

And people have got some bit of consolidation in last six-nine months. So, you have to readjust to the new normal. You cannot make 25% returns when you are at 21 times earnings. So, have a more balanced allocation in terms of your portfolio, include some long-dated bonds, add maybe a bit of a flavour of gold, and be a little modest in terms of expectations.

What are you making of the entire pharma space right now? Nifty Pharma is back in the green as we speak and we have seen some IQVIA data coming in for pharma in terms of their exports, market share. What are you making of those numbers and what are you liking from the pharma pack in terms of sub-sectors or any stocks that you could talk to us about?
Gurmeet Chadha: If you break pharma into four subsets, the healthcare hospital part has done pretty well, whether it is Apollo, Max. Narayana also caught up pretty well. What I think could do well once there is more clarity is, the CDMO and generics, the market needs clarity there.

CDMO in general is a huge opportunity. Already if you see the likes of Divi’s, Laurus, some of the other names, they are already at their all-time high. And if you see the export numbers of last year versus now, 70% numbers have already happened in the first five-six months.

Once there is more opportunity and once the Biosecure Act if at all finds light at the end of the tunnel in US, you could see Indian companies really gaining some market share vis-à-vis China. The last one is the branded generics bit, which is more like FMCG in Indian context, where valuations are slightly rich but you get steady, not much cyclicality in the earnings.

So, we like Mankind in this space. We are tracking the likes of Ipca, Cipla, etc, in this space.

So, we are pretty constructive. More importantly, if you see the correlation of pharma with Nifty, on a short-term basis it is around 0.6, on a long-term basis it is less than 0.5.

So, when corrections happen and in a market like this you got to also see downside risk in the sector, Nifty Pharma falls less than 50%. So, for example, if you go back to 2008 when markets fell 60%, Nifty Pharma was down 27%. In covid, again it fell half, in fact it recovered the fastest post.

2011 again, it fell 15% versus 20-25% broader fall in the market. So, it is very important for us to look at risk adjusted returns and low correlation also while building a portfolio and pharma has outperformed Nifty over last 10, 15, 20 years. So, it falls lesser and over a long period outperforms, so deserves more allocation and more weight in the portfolio.