Auto sector seeing green shoots; tractors, 2-wheelers and PV likely to do well

There is more news of sales picking up, especially in the two-wheeler segment and affordable passenger vehicle segment. Many small towns across India have seen stock-outs as two-wheelers are sold out. Some categories may even show a year-on-year pick in June sales.

The automobile sector has been one of the biggest success stories in India. The passenger vehicle segment grew by 8 percent CAGR over the period 2009-2018 to 4.4 million vehicles.

In 2019, slowdown hit the automobile industry as passenger vehicle sales declined to 3.8 million vehicles. Higher base and the shift of public preferences for Uber and Ola were some of the reasons.

Even two-wheeler sales were impacted by slowdown as inventory in channel piled up. Now, with production cuts and a big break, the channel inventory has cleared and suddenly the demand-side problem has transitioned to the supply-side problems.

Companies are slowly ramping up production as they adhere to capacity utilisation and social distancing guidelines.

The BSE Auto Index has also seen significant ups and downs over the last 10 years. The 10-year return of the BSE Auto Index from 2009 to 2019 is 10 percent CAGR but the index hit an all-time high of 26,600 in December 2017, delivering a whopping 17 percent CAGR return over the eight-year period.

From the heady levels of December 2017 to mouth-watering low valuations of April 2020 (post-COVID) levels of 10,269, the automobile sector has had a rollercoaster ride. The automobile index has recovered from the lows in April to better levels now but it is far from being out of the woods.

In May, it was the top-performing sector in terms of returns, as the auto index was up 12 percent. News of pent-up demand stoked the stock prices and the opening up of the economy helped the sector gain the lost ground.

Even as the larger economy faces problems, India’s rural economy continues to do well, which is reflected in reasonably steady tractor sales.

Other auto sales in rural India will also pick up but urban sales will be critical. Over the medium term, it seems likely that consumption will be hit but the impact will vary from category to category and in different ways.

Going to a movie hall or restaurant is more likely to be impacted severely than demand for a mobile phone. Consumption which is discretionary in nature but utility-oriented like owning a two-wheeler or an entry-level car will be hit lesser severely in the overall scheme of things.

At this juncture, the prospects for the Indian automobile industry appear better and brighter than the very bleak outlook in April. In order of preference, tractors, two-wheelers and entry passenger vehicle sales are likely to de well over the medium term.

The commercial vehicle segment will see challenges that are likely to persist longer but playing the combination of rural and necessities theme is likely to deliver reasonable returns for the next 12 months.

(The author is Chief Investment Officer (CIO), Axis Securities.)

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