Turnaround Tales: Motilal Oswal backs 'Bruised Blue Chips' for big returns

Given inherent strengths, these firms are likely to quickly regain their financials, leading to a sharp recovery in stock prices.

Offering a contrarian approach to most traditional investment strategies, in its Wealth Creation Study for 2024, domestic brokerage Motilal Oswal suggested investors look at 'Bruised Blue Chips' for attractive, low-risk returns.

These 'bruised' stocks are companies with a strong track record, but currently going through troubled times. Motilal Oswal suggested, "The best – if not the only – way to make turnarounds work is by investing in 'Bruised Blue Chips'. The returns in this approach are handsome, and probability of mortality is near-zero."

In this study, Motilal Oswal defines a "Bruised Blue Chip" as a stock whose price drops by 50 percent or more from its 5-year high at any point over the next 10 years.

For example, during FY15-24, a Bruised Blue Chip is any stock whose lowest price in this period was 50 percent or more below its FY10-14 high. If this condition is met, the stock is classified as a Bruised Blue Chip; otherwise, it is not.

There are many reasons that could cause an erosion in a firm's stock price, ranging from external causes such as recessions, change in governance, policies, the competitive landscape or global events. On the other hand, internal company related causes, such as poor management, rising debt or a deterioration in financial performance can cause bruising.

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Given inherent strengths, these firms are likely to quickly regain their financials, leading to a sharp recovery in stock prices. Assuming there is no structural decline in the companies’ fundamentals, such bruising offers a golden opportunity to build large positions in these aspirational blue chips, that traditionally command lofty valuations, noted Motilal Oswal.

There are three main reasons for strongly considering investing in Bruised Blue Chips: attractive returns, coupled with an asymmetric payoff and very low mortality. The potential for attractive returns that these beaten stocks generate is higher compared to their non-bruised peers.

The upside potential far outweighs the downside potential in these stocks. According to Motilal Oswal, on average, these stocks trade 75 percent below their 5-year highs.

For example, if a stock's high was Rs 100 and it dropped to Rs 25, the potential downside from this level is minimal. However, if the stock recovers to its previous high, the upside would be Rs 75 or 300 percent.

On the flip side, if the stock fell by 50 percent, recovering to its earlier high would result in minimum a 100 percent gain.

Further, there is a near-zero chance of capital erosion. In the study, the brokerage took into consideration 99 of these bruised blue chips in seven rolling 10-year periods ending 2018 to

2024. Of these, every single company continues to exist today. "Thus, by investing in Bruised Blue Chips, mortality is near-zero and risk of permanent loss of capital is low," said the report.