Pharma sector can be a good bet

Analysts say those taking exposure through stocks could look at firms focused on domestic business

Once the darling of investors, stocks in the pharmaceutical sector are on a downward spiral in recent months. In the past three months, the National Stock Exchange’s pharma index has fallen 11 per cent. Similarly, pharma funds’ three- month category returns are a negative four per cent. In the past month, returns have fallen 6.59 per cent.

This is a contrast to the sector’s performance in the past decade. Pharma funds were top performers in the past 10-year, five-year, and three-year periods, giving annual returns of 20.4 per cent, 21 per cent, and 30.7 per cent, respectively. So, too, with the Nifty pharma index – it is has consistently outperformed all other sector indices across different periods.

Vidya Bala, head of mutual fund research at FundsIndia, says, earlier the sector was known as a defensive bet when multinational companies (MNCs) occupied the top slot. It did well when markets were trading either sideways or were bearish. Over the past decade, Indian companies have replaced MNCs and phama is now a sector that investors look at, irrespective of the market mood.

So, what has gone wrong? An analyst with a domestic brokerage firm says the negative sentiment is due to the US Food and Drug Administration (FDA) raising concerns over manufacturing standards at top pharma companies in the country, including Sun Pharmaceutical, Dr Reddy’s Laboratories and Cipla. This has impacted the sector.

These companies have diverted all their resources towards resolving the issue, as no one can afford to lose business in the world’s biggest pharma market. “We feel that over the next two quarters, many of these companies will be able to tide over this and investors will flock back,” the analyst says.

Most analyst reports say that companies hauled up by the FDA are a good long-term bet. They feel that correction is a good opportunity to buy. However, there will be mid-term pain because these firms will not be able to launch new products in the US market and also cannot supply some of the existing ones there.

Experts, however, say investors should not go overboard while taking sectoral bets. If they believe in the long-term story of the pharma sector, they can look at increasing exposure by five to 10 per cent only.

“Mutual fund investors should realise their diversified equity funds already have exposure to the sector,” says Dhaval Kapadia, director of Investment Advisory, Morningstar Investment Adviser (India).

Most diversified equity funds have at least three pharma stocks in their top 25 holdings. Kapadia says total investments across sector funds should not be more than 15 per cent of the portfolio. For those looking at picking stocks, analysts say there are companies in the space that don’t have a presence in the US and a majority of their profits come from the domestic business.

Stocks of these companies will continue to do better. As commodity prices are still low, their manufacturing cost has come down. However, they have raised prices by an average of 10 per cent across products. This has resulted in improved profitability.

Illustration: Uttam Ghosh/Rediff.com