Why I Like India Autos

How has India’s auto industry fared in recent years?

In 2017 and 2018 the sector was doing quite well and then several things sent it into the doldrums. Stricter emission regulation and safety requirements drove up vehicle prices and mandatory insurance reform increased the cost of ownership. Then we had the pandemic and as we came out of COVID we were hit by the chip shortage.

So the industry hasn’t performed well for about four years. However, in late 2021, we saw volumes starting to recover and we took the view that the sector was poised to improve. Also, because returns had been so depressed over the preceding years, valuations were more attractive than many other sectors.

What do you think is driving the recovery? 

It’s mainly pent-up demand. During the pandemic, people didn’t need transport because they were stuck at home. But as mobility has improved, replacement demand and first-time buyers are starting to come back. What’s more, Indian auto manufacturers typically have about a two- to three-month tailback in orders. That means that even if we don’t see new buyers, we believe these companies can report 20% to 25% volume growth just by working through their backlog. It all points to decent growth ahead for the industry.

Are there singular or multiple investment opportunities? 

The auto-sector universe is very broad and it’s getting broader and more dynamic. There are the established markets like passenger cars, commercial vehicles, motorcycles and scooters, in which new players are entering. There are also the auto-part suppliers and auto financiers. And of course, the new fast-growing space is the electric vehicle (EV) segment and the suppliers that go with it.

"Indian auto makers have about a two- to three-month tailback in orders. They can report 20% to 25% volume growth just by working through their backlog." Peeyush Mittal, CFA, Lead Portfolio Manager

How do you approach the market as a portfolio manager? 

First and foremost, we consider companies on the basis of their fundamentals and the strength of their business models. In autos, we typically look for companies that have a strong track record of model launches and keep their product portfolios in sync with the market demand. We also focus on scale because that tells us that a company can sustain a good model launch cycle. We usually invest in the first or second-biggest players in a product category. In the autos sector, a successful model launch cycle leads to market share gains and to robust revenue growth.

What are the headwinds? 

The biggest challenge is rising interest rates. A vehicle is a large purchase and consumers are reliant on financing. In today’s global economy that’s a headwind we have to contend with. Having said that, interest rates in India are about where they were pre-COVID so we think consumer demand will outweigh the impact of higher borrowing costs. We also believe most of the bad, global economic news is factored into Indian auto equity prices. And the good news is that copper, aluminum, and steel prices are down from six months ago, which bodes well for margin improvement. Oil prices are going down, too, and the worst of the supply chain impacts are behind us.

The other challenge is the pace of EV disruption. While electrification is undoubtedly a huge opportunity it’s hard to evaluate its impact and how fast the shift to electric motors will happen. So we are assessing that closely.

Will the industry remain on a road of profitable growth?

We think domestic demand in India will remain robust and will be a driver of commercial and discretionary auto purchases. We expect the auto industry to deliver good revenue growth along with improvement in operating margins in the coming quarters, which should translate to very strong earnings growth for the sector as a whole.