Can We Still Buy Stocks in the present High Market in March 2018?

Can we still buy stocks in the present high market in March 2018? Many people wonder.

Actual Question:

Do you still buy stock in the current market?

Answer:

Dear Friend!

I say yes. But there are a few stocks that are still available at fair price. At the beginning of every month, I write a detailed post on what stocks to buy for that month. I have a list of about fourteen stocks which I have thoroughly investigated. To check whether these stocks are available at a fair price, I subject them to a quick verification under four important conditions laid down by the value investing as follows:

1. 'Price to Book Value (P2BV) Ratio' shall be less than or equal to 1.50
2. 'Price to Earnings (PE) Ratio' shall be below or equal to 15.
3. The result of the combination of the above two ratios (PE*P2BV) shall be less than or equal to 22.50
4. The 'Dividend Yield' shall be above the hurdle rate. Usually, I keep the hurdle rate at 4% but since the stock market is very high I have lowered the hurdle rate to 2%.

The below picture shows which stocks qualify under the four criteria:

Can we still buy stocks? - Criteria for Qualification

You can see that while many stocks qualify under all the four angles, a few pass the test only under one or two conditions. I normally address this such a situation in the following manner. I divide the total investible sum equally among all the four criteria. Those stocks that do not qualify (highlighted by white fonts in the red boxes) will not get any get any allocation under that criterion. I make those that qualify (black fonts in white or green boxes) to compete among themselves and grab the highest allocation based on their merit. For example 'Shipping Corporation of India (SCI)' with P2BV Ratio of 0.44 will get double the allocation of MOIL with a P2BV number of 0.89.

Well did I buy these stocks this March 2018? No. The reason for not buying is not connected to the merits of buying these stocks. The reason is that I wanted to avail tax exemption or deduction under section 80C of the income tax act. We are eligible to make investments up to Rs.1,50,000/- under the various eligible financial instruments. Buying individual stocks does not qualify for the deduction. Only investing in a special mutual fund called 'Equity Linked Savings Scheme (ELSS)' is allowed. The mutual fund manager will invest the money perhaps in the top 50 stocks by market capitalisation. Since the markets are trading high, it is obvious the fund manager will be buying these top stocks at very high valuations. Therefore, I made a token investment of Rs.20,000/- in an ELSS scheme and rest in 'Tax Saving Fixed Deposits' with banks.

So the answer to the question, 'can we still buy stocks under the prevailing high market prices in March 2018' is a definite yes. We can buy the select few stocks listed above.

Hindustan Aeronautics' Initial Public Offer

The HAL IPO is a good albeit slightly expensive investment. If you compare it with the general pricing trend, it is reasonably priced. I normally avoid subscribing to IPOs. I always prefer to wait and buy the shares in the secondary markets (stock exchanges) when the markets are depressed. Therefore I recommend the same to you. However, if you believe in subscribing to IPOs, you may invest. Hindustan Aeronautics Limited is decent central public sector company. It is profitable, has negligible borrowings and paying good dividends. The business outlook is also good.

The Company

Hindustan Aeronautics (HAL) is a state-owned company enjoying Navratna status. It is the largest Defence Public Sector Undertaking (DPSU) in India. HAL is engaged in the design, development, manufacture, repair, overhaul, and upgrade and servicing of a wide range of aircraft, helicopters, aero-engines, avionics, etc.

HAL was established as a private company by Shri Walchand Hirachnad in the year 1940 in Bangalore. He established the company with a purpose to manufacture aircraft in India. The company has grown from this humble beginning to the present stature of the largest defence PSU, gradually over the years.

HAL’s Financial Highlights

You can see that Hal’s operational results decent. An ‘earnings before tax (EBT)’ margin of 13.65% is good even though not fantastic. Its ‘profit after tax (PAT) margin also is reasonable at 14.15%.

We can see from the balance sheet that HAL has negligible borrowings. This is the very good management of the company. It also has a significant cash and cash equivalents at Rs.11,153.34 crores. I don’t know why the company is having a high figure of other current liabilities.

HAL IPO at a Glance

The Government of India is bringing out this IPO of the size of 4,200 crores entirely as an offer for sale (OFS) of 3,41,07,525 shares (10.2 percent stake) it owns. The lead managers have fixed the price band between Rs 1,215 to Rs 1,240. They are offering a discount of Rs 25 per share to retail investors.

HAL IPO Price Evaluation

I evaluate the HAL IPO based on various important aspects in the following paragraphs.

Price to Earnings Ratio

The offer fixes the price to earnings ratio or the ‘PE Multiple’ at a reasonable at 17.08 times. I have derived this from the 2016-17 financial year’s consolidated profit and loss account. Even though the value investing principles recommend a maximum PE multiple of 15 times, if you look at the general trend of IPO pricing it is reasonable.

Price to Book Value Ratio

However, if you look at it from the price to book value ratio (P2BV) angle, it is very expensive. The P2BV ratio is 8.70. But value investing recommends a maximum multiple of 1.5. I assess the total book value per share at Rs.142.61. But, If I consider the book value based only on tangible assets, it is Rs.136.30. I wonder how an assets heavy aircraft manufacturing company like Hindustan Aeronautics Limited can have such low book value per share.

Dividend Yield

HAL has distributed a dividend of Rs.22.13 per share for the financial year 2016-17. This dividend translates into a poor dividend yoeld of 1.78%. But please don’t come to the conclusion that HAL is stingy in paying dividends. HAL has distributed Rs.800 crores as dividends for the financial year 2016-17. This means that HAL has distributed 30.48% of its net profits of Rs.2624.81 crores by way of dividends. Thus HAL has distributed a handsome portion of its net profits in the form of dividends. So the high IPO price is the real culprit behind the low dividend yield.

Conclusion

Finally, I conclude that the issuers of this HAL IPO have fairly fixed the price. It is reasonable from the PE perspective. But from the P2BV perspective, it is expensive. The IPO price makes the dividend yield low. While I would wait and buy HAL shares on the secondary market later, if you are keen on subscribing to this IPO, you may. Investing in HAL at this price of the share is not bad.