Believe it or not, PSU stocks are outperforming the market
4 min read . Updated: 24 Dec 2022, 11:42 AM IST
Premium- The transformation of PSUs from laggards to stock market darlings is due to a combination of favourable occurrences.
During the past three years, the biggest capital gains have come from PSU stocks, with government-owned banks leading the way. In the 12 months since January 2022, the S&P BSE CPSE Index, which tracks the largest listed PSUs, has returned 11.9 per cent, while the Nifty has returned only 2.4 per cent in the same period.
Among PSUs, the PSU Bank Index has risen an amazing 53.6 per cent. Apart from the banking sector, government-controlled resource plays such as NMDC, ONGC, OIL and Coal India have done well. The market value of listed PSUs has risen to around 13 per cent of total market cap, from around 10 per cent a year ago, though part of the gains comes from listing the behemoth, LIC.
The transformation of PSUs from laggards to stock market darlings is due to a combination of favourable occurrences. There’s been turnaround and consolidation across the PSU banks space, with weaker, loss-making banks merged or taken over by stronger ones. All the banks have benefited from the low interest regime of the past three years, and they’ve got stronger balance sheets as a result.
During the same period, there was a huge price-spike in the commodities markets (caused partly by supply chain disruptions during the pandemic and then by the Ukraine war). Global bull markets in industrial metals boosted returns for metal producers, and NMDC, which mines iron ore.
Since the Ukraine War, the prices of natural gas, crude and coal have also shot up, leading to higher profits for Coal India, ONGC and OIL. The post-pandemic economic bounce has also led to a surge in power consumption, which is good for NTPC, NHPC, Power Grid and other utilities.
Tax cuts, low interest rates and high liquidity were part of the prescription for covid management. That was emergency treatment. In long term, the policy of consciously promoting Make in India promises to generate order flows for industrials such as BHEL, BEL, Engineers India and defence-specific companies such as HAL and Garden Reach, which the government controls.
Aerospace and defence are two new sectors where massive opportunities are visible. If the policy pushes into semi-conductors, green hydrogen, electric vehicles, and so on are successful, more opportunities would open up.
The stock market outperformance is also partly due to a catch-up factor. PSUs underperformed the broader markets for a very long time. If we look back a little further into the past, the Nifty has moved up 61 per cent in the five years since January 2018, while the BSE CPSE has actually lost 5 per cent between Jan 2018-Dec 2022.
In the last three years (2020-22), PSU performance improved with profits growing much faster (from a low base) than in the private sector. According to one study by Motilal Oswal, leading PSUs have had 70 per cent CAGR in profitability in this period whereas the private sector (which is much larger) has generated 44 per cent CAGR. PSU share prices catching up reflects that change of pace.
Given tax rate cuts, reduction in banking sector NPAs and the strong momentum of post-pandemic recovery, can we expect this PSU outperformance to continue, or will it normalise? There are concerns about rising interest rates, tighter liquidity, slower global growth, a continuing conflict in Europe and, perhaps, even a resurgence of covid.
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It’s worth pointing out that many Navtratnas operate in highly volatile sectors, such as financials, commodities and energy. Cyclicals can see wild swings in profitability and investors tracking cyclicals can be even more manic-depressive in their attitudes when it comes to buying and selling those shares.
Despite the headwinds, most analysts expect some PSUs to continue delivering strong performances. The banks are expected to do well and LIC (which is trading well below its issue price) is also touted as a likely winner. But metals could see a cooling off.
As economic activity improves, the government may have the headroom to dispose of more loss-making entities. The sale of Air India plugged one huge bleeding wound. A resolution of loss-making telecom entities like BSNL and MTNL would take care of another headache.
Finally, there’s power distribution, where huge dues tend to pile up for generators and suppliers. Distribution companies which are mostly run by state governments operate on political considerations and this is a massive contributor to overall government deficits (States plus Centre). If the Centre can leverage its political capital and exploit the currently positive market stance on PSUs to tackle this issue, it would take care of a structural problem which has lasted for decades.
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