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Lessons from the World's Top Performing Aviation Stock

Nov 28, 2015

In this issue:
» How has PSU disinvestment progressed?
» Why higher savings is important...
» Weekly Round-up of the markets
» ...and more!
00:00
Radhika Nabar, Managing Editor of ValuePro

An article in the Economic Times on the aviation industry made us sit up and take notice. It stated that SpiceJet has become the world's top-performing airline stock. Indeed, the company saw its stock price surge four-fold in the last one year. Some other international airlines gained around 100-300% during the same period.

The phenomenal rise in the stock of SpiceJet is quite something. Given that not a short while ago, it seemed that the carrier was destined to go the Kingfisher way. What seems to have prompted interest in the stock is the softening crude oil prices worldwide. Plus, many investors are banking on a boom in passenger traffic, which is expected to translate into higher growth.

The change in management at the helm of SpiceJet has also generated interest in the stock. The airline is now being billed as a turnaround story as the new management is working on getting the airline back on its feet.

Although the scenario does seem brighter for the carrier than what it was a year back, is the four-fold rise in the stock price really justified?

When SpiceJet was in deep trouble, Vivek Kaul, co-editor of The Daily Reckoning, had made some very valid points in his article on the airline company. The crux was that commercial aviation is a tough industry to be in.

First, it is a highly capital intensive industry. Second, the competition is fierce.

Third, it gets hit by a lot of things not under its control. These are the overall economic sentiments, global oil prices, taxes and global incidents such as outbreak of diseases or geo-political problems.

Fourth, aircraft manufacturing industry is almost monopolistic with Boeing and Airbus dominating this space. So carriers in some sense are at their mercy and cannot really control costs.

In SpiceJet's case in addition to all of these factors, it also had to contend with the problem of an ineffective management. That could, however, change with the new management in place.

But even then, SpiceJet is not immune from the basic problems that come with being part of the airline industry. The stock has surged because of lower crude prices and prospects of growth in passenger traffic. But these factors are completely beyond the control of the airline. History has ample examples of how volatile crude prices are. So a scenario of firm crude prices in the years ahead cannot be ruled out. Growth in passenger traffic is also dependent on a variety of factors - not all of them within the control of the industry.

SpiceJet posted losses for the last three years. However, the last couple of quarters have seen the carrier report profits. The crux is whether the company will be able to consistently report profits in the years ahead in the manner its competitor IndiGo has managed to do.

So investors should not get carried away and invest in the stock of SpiceJet based on a low crude price environment and prospects of higher growth. The question to be asked is whether the company has what it takes to consistently become profitable and improve the return on capital for its shareholders. And this is not something that can be determined by performance in a couple of quarters.

Do you think that the steep rise in the stock price of SpiceJet is justified? Let us know your comments or share your views in the Equitymaster Club.

02:21 Chart of the day

Rs 410 billion. That's the divestment target set by the government at the start of the year. In the first eight months of the current fiscal, it has managed to raise only Rs 127 billion; about 30% of the target. This leaves the target for the next four months to be Rs 280 billion. The pending likely divestment companies include commodity majors such as NMDC and ONGC as well power equipment major BHEL. Their stocks have underperformed the market substantially.

As today's chart of the day shows, stocks of likely divestment targets are down by 9% to 37% in the year till date. The dull outlook as well as the weak commodity prices are making matters worse. How long this trend is likely to continue is anyone's guess, as a lot depends on China's economy and its impact on the rest of the world. In fact, even Finance Minister Arun Jaitley is of the view that divesting at current levels does not make sense.

What does this mean for investors? Well...the fortunes of the resource companies are linked to global factors. This makes them cyclical businesses. When times are bad, stocks of these companies tend to underperform. However, there comes a time when such companies trade at considerable discounts to their respective book values. And since investors would be able to get good downside protection in such cases, it could make a good investment opportunity. One should also keep in mind that the likelihood of PSUs paying out dividends does remain high too. Investors would do well to consider the dividend protection that these stocks can offer.

Please note that we are not providing a Buy view on any of the stocks mentioned in the chart. However, keeping an eye on businesses that are likely to survive and emerge stronger as and when the cycle turns would be a good way to go about things when it comes to investing in such types of businesses.

Progress of PSU disinvestment
03:24

Times have changed for savers in India. Real interest rates (rates adjusted for inflation) have been positive for over a year. This has ended almost a decade of negative rates.

Despite bank deposit rate being relatively higher, high inflation ate away most of the real returns for savers for long. Naturally this impacted the savings to GDP rate which has come down by almost 5% in the past decade. But what is most worrying is the fall in financial savings. With no incentive to save and invest in financial assets, Indian households have largely built physical assets. Gold, land and real estate were the favourites.

However as we have been writing to you, financial savings are at the core of India's Golden Decade Megatrend. Without sufficient financial inclusion and financial savings, India is unlikely to meet the stated economic goals. Therefore it is imperative for the government to incentivize both - higher savings and financial investments. The Pay Commission recommendations are likely to help around 18 million state and local government employees to save more. After all their combined salaries are expected to go up by several billion. But unless these savings get routed to financial investments, India's Megatrend will be starved for funds.

4:02

After a strong show last week, equity markets ended on a mixed note this week. The European markets ended in positive territory as hopes that the European Central Bank will announce further stimulus measures and cut bank deposit rates boosted sentiments. Even the Indian markets ended in the green, recording a rise of 1% for the week.

The US markets ended weak on expectations of a rate hike by the US Fed in mid-December. Even the US November jobs report will be released next week and will be the critical signal for the Fed before its rate hike meeting.

The Chinese markets tumbled after investigations by Chinese regulatory body into several brokerages for breaking regulations triggered a sell-off. The indices were down by 5.3% for the week. Even the Singapore and Hong Kong markets were down by 2% and 3%, respectively. The Japanese index remained flat after the country's core consumer prices fell for the third consecutive month pointing to a weak macroeconomic environment.

Back home in India, anticipation of the passage of the amendment bill on goods and service tax (GST) in the winter session of the parliament kept equity markets buoyant for the week.

Barring FMCG and pharma, all sectors ended the week on a positive note. Stocks from the realty and banking sectors were the biggest gainers for the week.

Performance during the week ended 27 November, 2015

04:55 Weekend investment mantra

"Investors should be skeptical of history-based models. Constructed by a nerdy-sounding priesthood using esoteric terms such as beta, gamma, sigma and the like, these models tend to look impressive. Too often, though, investors forget to examine the assumptions behind the symbols" - Warren Buffett

This edition of The 5 Minute WrapUp is authored by Radhika Pandit (Research Analyst).

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2 Responses to "Lessons from the World's Top Performing Aviation Stock"

Terence Verma

Dec 2, 2015

I don't think that the steep rise in the price of SpiceJet shares is justified so early in its 'recovery' phase. It will be upto the new management to show how over the course of some years that they possess the ability to mitigate the factors that are not in their control.

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Rattan Sachdev

Nov 29, 2015

Can you answer me about How stock of Suzlon got devalued from Rs.115 to Rs.63/-in 10 minutes on the day Mr.Chidambram's finance portfolio was given to Mr.Pranab Mukherjee? There was a crash in the Market in 2009 If I recollect and there after the price went further down to lowest at Rs.9/- per share over a few months. It remain static in between at Rs.22/- per share.
My first question: Is the value of share linked to the chair of Finance Minister and how?
Question No 2: What are the factors which control the value of a this share?
Question No.3:Are we not deficient in generation of Electricity for our country?
Question No 4: If the demand is much more than supply of energy, then how the suzlon can suddenly under perform in 10 minutes. Were all the orders with the company were Withdrawn by change of chair and company became under performing in 10 minutes.
Question No 5; What actions have been taken against those people who have falsely hiked the value of
Suzlon share?
Q. No 5: Is there another Harshad Mehta still existing in this sector and controlling the share market.
Q.No.: Is it possible that a coterie of heavy weight brokers have formed union to play with sentiments of public money.
Q.No.6: Has an investigation carried out by the govt Agencies till date on such factors, if yes, please publish the report for layman like us to give confidence for investment in share market.
Q.No.7: I was a sub broker of Religare Securities Ltd Agency code 1601, this I surrendered
because of the crash of Market share without any reason, just announcement of change of person on chair of Minister.

7. I observed every day there was a fluctuation by a few rupees or paises up and down per share per day in between 3 to 5%. It has to happen due to selling and purchasing of shares in the market which is a fair behaviour.
Give me the reason to develop confidence in share market for the healthy growth of indian Economy, somebody is creaming off the wealth of this nation. why the regulators have failed time and again.
I believe that wind energy is the best source of generation without pollution and is successful in Holland till date, why it is not promoted and supported in India.
Warm Regards

Plz Note: I have not raised this question pertaining to Aviation sector, please forgive me that.

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