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Is there a monsoon effect on stocks?

June 30, 2003

Do punters look to the raingods for inspiration? From the kind of market rally one has witnessed in May and June, it doesn't appear so.

But history tells us that the markets have a tendency to rule weak between June and September -- when the monsoons have their say on the Indian economy.

In six of the last 10 years, the Nifty has lost value during this period. For the Sensex, it has been five times out of 10. What about this year?

While a correct answer to this question will have to wait for a while, market experts see a stronger correlation between monsoon performance and some industries.

Last year, poor monsoons had a lagged impact on the fortunes of many two-wheeler, tractor and consumer non-durables firms. Will the scenario be repeated, since the meteorological department's forecast for this year is rainfall on the "lower side of normal?"

Analysts point out that the monsoon effect over the Indian economy has gone down, limiting the downsides as far as the stockmarkets are concerned.

According to estimates, the Indian economy's dependence on agriculture has gone down considerably to 24 per cent of gross domestic product compared to more than a third a few years ago.

Even so, several companies -- especially in the FMCG, two-wheeler, fertiliser and construction segments -- will be keeping their fingers crossed.

The reason is that for many of them demand is close to saturation point in the urban areas, and growth must come from the rural sector -- which means a substantial vulnerability to agricultural fortunes.

Given these facts, 2002 was an year to forget for companies like Bajaj Auto, Hero Honda, Punjab Tractors and Hindustan Lever.

Consider the figures: Bajaj Auto's share price dropped 34 per cent from Rs 490 levels in early June to a low of Rs 366 at the start of October before recovering to the current Rs 570 level.

Not surprising when you consider the fact that sales also took a hit during the September 2002 quarter, going down from Rs 1,068 crore (Rs 10.68 billion) to Rs 1,050 crore (Rs 1050 billion).

The other two-wheeler maker Hero Honda did not fare much better at the bourses during the period. The scrip dropped from Rs 328 in early June to Rs 240 in early October before going down even further.

Net sales dipped from Rs 1,274.3 crore (Rs 12.74 billion) during the June quarter to Rs 1,235.9 crore (Rs 12.36 billion) during the three-month period.

But marketmen are more optimistic this year. "Going forward, the impact of monsoon on two-wheeler sales should be lesser. It may cause some minor blips in demand but it should not have a really big impact," says Sumeet Pillai of Mumbai-based brokerage Karvy Stock Broking.

Sachin Kasera, auto analyst with domestic securities firm Pioneer Intermediaries, says two-wheeler majors like TVS, Hero Honda and Bajaj Auto, which have offerings in the rural segment, should see upsides if the monsoon is good.

"TVS's new Max 100 sees almost 100 per cent of the sales coming in from the rural areas. Other models like Hero Honda's CD Dawn and CD 100 and Bajaj's Boxer are also popular in the rural market," says Kasera.

According to Pillai, Bajaj Auto is the best pick among two-wheelers now because of the wide variety of offerings which have been successful. He was less bullish on the other two-wheeler makers - Hero Honda and TVS Motors.

Tractor makers were another group who saw soggy toplines in last year's weak monsoon. Companies like Punjab Tractors and Ashok Leyland suffered.

Punjab Tractors' share was down more than 60 per cent from a high of Rs 180 in June 2002 to a low of Rs 118 in October. The financials weren't good either.

The company, which reported net sales of Rs 194 crore (Rs 1.94 billion) and net profit of Rs 18 crore (Rs 180 million) during the last quarter of FY01 had the mortification of seeing the figures plunge to Rs 161.7 crore (Rs 1.62 billion) and Rs 14 crore (Rs 140 million) respectively during the June quarter of FY02.

The numbers looked even worse at Rs 133 crore (Rs 1.33 billion) and Rs 10.8 crore (Rs 108 million) respectively during the September quarter.

The same holds true for Ashok Leyland, too. The scrip crashed nearly 45 per cent from Rs 118 in June 2002 to Rs 81 levels in November that year.

"In 2001-02, the problem was excess inventory and last year's poor monsoons provided no respite," says Kasera.

Analysts do not expect a repeat this year. "Good monsoons (so far) augur well for the auto industry on the whole. However, the maximum impact would be on tractor sales, which had been languishing for the last two years," says Kasera.

"Companies like Punjab Tractors, Escorts and Mahindra & Mahindra should do well (if the monsoons are good)," he adds.

According to Pillai, Ashok Leyland and Telco are the two scrips that stand out.

"Ashok Leyland would see more demand, especially in the south, as the southern section of the golden quadrilateral gets completed. However, the bias is more towards Telco because the company has more segments from where it can grow".

The outlook on the tractor segment should be even better if the rains are good.

"M&M's retail tractor sales would show some improvement. However, the impact on the quarterly sales figures would not be much because of the company's large base. However, the yearly sales figures should show a huge improvement," says Pillai.

Other monsoon-impact categories are trucks and multi-utility vehicles, which traditionally see a spurt in sales in the event of benign monsoons.

"The effect of this would reflect on players like Telco and Ashok Leyland," notes Kasera.

"Among MUVs and pick-ups, M&M should see growth coming in the form of higher sales, especially in the hard top segment. The soft-top segment has been on a decline of late," adds Pillai.

Despite the positive monsoon outlook, some analysts are worried that though Punjab Tractors would benefit from higher tractor sales, the high levels of inventory would weigh down profits.

Both Kasera and Pillai were of the opinion that the impact of the monsoon on car sales would not be much since 80 per cent of the demand in the segment comes from urban areas.

However, auto ancillary firms might stand to benefit from a good monsoon due to the spillover effect.

FMCG is another sector that comes under scrutiny when it its rain-time. FMCG majors like HLL and Nirma, which have a big presence in rural India, suffered last year.

HLL reported a drop in topline from Rs 2,671.5 crore (Rs 26.71 billion) in the June quarter to Rs 2,367.4 crore (Rs 23.67 billion) during the September quarter.

Net profits also declined from Rs 44.73 crore (Rs 447.3 million) to Rs 41.32 crore (Rs 413.2 million). The scrip dived to 52-week lows many times during the last fiscal, incorporating a 31 per cent decline from Rs 200 levels in June, 2002, to Rs 152 in late October.

Nirma was the other big loser in the FMCG segment as sales crashed from Rs 552.8 crore (Rs 5.53 billion) from the June 2002 quarter to Rs 457.1 crore (Rs 4.57 billion) in the next.

According to analysts, the impact on FMCG toplines during the monsoon months is not much because of the 'lag effect'.

"The effect comes into play later during the harvesting season and after the money is actually realised by farmers. A good monsoon leads to a feel-good factor among the rural populace which leads to higher consumption," says Richard d'Souza, an analyst with Mumbai-based Sunidhi Consultancy.

Despite the poor season last year, the bright outlook for the current year should augur well for these companies, aver industry watchers.

According to d'Souza, not all of them are impacted equally. "It depends on what kind of product mix they have. While companies like Nestle, which have a pre-dominantly urban market, are less susceptible to the vagaries of monsoon, HLL, which has a big dependence on rural markets, are directly impacted."

"The monsoon outlook for the year is good though early reports suggest that the rainfall has been slightly less than normal so far. Because of the lag effect, we'll have to wait till the festival season to see how FMCG companies will perform this year", notes Amnish Aggarwal, group manager, research, at domestic securities firm Pranav Securities.

HLL, Nirma and Dabur are likely to be the main beneficiaries if the monsoons hold firm, say analysts.

Apart from companies in the FMCG, two-wheeler and tractor segments, there are others who will be looking skywards with interest.

Among them: cement, construction, paints and fertiliser firms. Like FMCG, the impact on cement and construction companies is much more during the second half of the fiscal rather than the first.

What about cement companies? "The trend is positive this year. We'll have to wait and see how the monsoon progresses for the next two months to see the full impact. Maybe by September we'll have a clearer picture," says Avinash Gorakshakar of Emkay Research.

"In the case of cement companies, price drives profitability rather than volumes. Though volume growth has been comfortable for the last five-six months, the prices have not shown much improvement," he adds.

That being the case, the industry may have more to be concerned about this year than just the rains.

Last year's scanty rainfall was largely blamed for the drop in India's FY03 economic growth down to 4.4 per cent from 5.6 per cent the previous year.

"The effect of the monsoons are spread to the economy on the whole, thereby effecting trade," says Sumeet Pillai.

Indian crop production has a significant dependence on the timely arrival and spread of the monsoon. According to Pillai, the real key is the optimum distribution of the monsoon.

"The question is now whether the monsoon is good or bad. Satisfactory rainfall on an average does not mean anything. For instance, there may be adequate to surplus rainfall in Assam and Meghalaya. However, the real impact would be felt if there is inadequate rainfall in key farm belt of the North and West like Punjab, Haryana, Uttar Pradesh and Maharashtra," he notes.

According to experts, even though the impact of poor agriculture growth on the GDP may be limited due to its changing composition, a second monsoon failure will hurt sentiment and affect growth.

For the stockmarkets, the direct impact of a poor monsoon on bottomlines is less important than the fact that every monsoon brings in the old uncertainties.

If the rain Gods smile

Two-wheelers: Impact of monsoon on two-wheeler sales would be lesser in future, say analysts, though players like Hero Honda, Bajaj Auto and TVS, who have offerings in the rural segment, should see upsides if the raingods smile.

Tractors: Excess inventory and poor sales dragged tractor makers down last year. Analysts expect an improvement in yearly figures in the event of a good monsoon this year, with Punjab Tractors and Ashok Leyland expected to benefit most.

FMCG: A good rainy season will lead to a feel-good factor among the rural populace which will lead to higher consumption, though the impact may not be visible till Diwali because of the 'lag-effect'. Companies like HLL and Nirma, which have a larger rural presence, should do well, say analysts.

Cement: More than the monsoon, the restructuring and consolidation happening in the industry and higher prices augur well for cement firms.

Construction, auto-ancillaries and fertiliser: stocks may also see a positive impact due to the spillover effects of a good monsoon.

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