Demand recovery for the automobile sector post lifting of lockdown has been stronger than anticipated. Brokerage firms are bullish, but they advise investors to remain cognizant of retail auto sale risks.

Motilal Oswal Financial Services predicts that the second quarter (Q2) of FY 2021 could potentially mark the beginning of a margin recovery phase after eight straight quarters of year-on-year (Y-o-Y) decline in earnings before interest, taxes, depreciation, and amortisation (EBITDA) margins,

Jinesh Gandhi, Deputy Head of Research, Motilal Oswal Financial Services, says, “This recovery phase can be attributable to the pent-up demand, positive agri-economics, and a moderate shift from public to private transport. Demand has largely normalised for two-wheelers and passenger vehicles in Q2 FY 2021.”

Society of Indian Automobile Manufacturers (SIAM) has estimated a 26.45 per cent year-on-year growth in September 2020 in the passenger segment to 272,027 units. Two-wheeler sales registered an 11.64 per cent year-on-year growth to 1.84 million units during the month.

“Some sectors have shown signs of recovery in the second quarter. Growth in passenger vehicles and two-wheeler segments is positive, although on a very low base,” explains Rajesh Menon, Director General at SIAM. “We are expecting good demand in the festive season starting tomorrow. Thanks to the government for intervening, auto loan interest rates are below 8 per cent, the lowest in a decade. It should encourage customers to purchase new vehicles. Commercial vehicle and three-wheeler sales are still in the negative growth zone.”

According to SIAM, the quarter April-June 2019 witnessed a drastic fall across auto sales categories for the first time in ten years. Hike in third party insurance premiums and tight liquidity position following a crisis in the NBFC (non-banking financial company) segment had already affected auto sector sales.

Today the scenario depicts an encouraging picture. Demand for the auto sector has revived back to pre-COVID levels across segments, including two-wheelers, passenger vehicles and tractors. Sales have recovered due to sustained rural demand and inventory build-up in the upcoming festive season.

Aditya Makharia, Institutional Research Analyst at HDFC Securities, says, “We remain positive on Maruti, Hero Moto and Endurance, auto component manufacturer, in the auto and auto parts sector. These companies will benefit from the ongoing recovery in demand, given their market leadership position and broad-based presence, particularly in the rural segment.”

According to a CARE Ratings report, anticipation of a good festive season, especially in Q3 FY21, led to a sudden surge in automobile wholesalers in September 2020, while retail sales are yet to gain pace,

Experts have cautioned investors to remain cognizant of the risks that lie ahead in the auto sector’s retail side.

“High hopes have been pinned on the upcoming festive season. In case it turns out to be a dampener, automobile dealers will face serious challenges in clearing inventory in Q4 FY21, and this could wipe out all the gains made in H1 FY21,” warns Madan Sabnavis, Chief Economist, CARE Ratings. “Though the automotive sector has exhibited decent recovery on a sequential basis, full demand recovery is not expected until at least FY22.”

At present, brokerages continue to remain bullish on the sector. They expect stock prices to rise, led by retail trends in the festive season and supportive government policy expectations. According to these firms, companies like Maruti Suzuki, Hero MotoCorp and Mahindra & Mahindra are well-positioned to benefit from improved demand.

“Within the two-wheeler, passenger and tractor segments, our top picks include Hero MotoCorp, Eicher Motors and Mahindra & Mahindra. Besides, we like Ashok Leyland as a pure-play in the CV space,” says an analyst at Emkay Global Financial Services.

Jinesh Gandhi says Motilal Oswal Financial Services has increased its FY22 earnings per share (EPS) estimates for almost all companies. The firm has projected large increases for Ashok Leyland, TVS Motor Company (+14 per cent), CEAT (+19 per cent), Mahindra CIE (+15 per cent), and Maruti Suzuki (+11 per cent).

The S&P BSE Auto Index has already recovered by 66 per cent as of 19th October, 2020 from its lowest in March 2020.

Many auto companies are rolling out various offers like cash discounts, extended warranty, maintenance programmes, complementary vehicle exchange offers and easy buying options in the form of long-tenure. For instance, India’s largest carmaker Maruti Suzuki India announced special offers for government employees under its ongoing festival offers across its models.