Prime Stocks: An update on a recommendation

When a stock recomendation we give runs up sharply, what should be your course of action? Should you exit or should you hold or should you book profits? We have one of our stock recommendations that presents such a case. This note will tell you what needs to be done. Kindly take the time to go through it.

We had initiated a Buy call on the stock of IRCTC in April 2021, at a price of Rs 1615.  After a 50% appreciation in the stock price within three months, which we believed to be ahead of any expected improvement in the company’s financials, we moved the stock to a Hold rating. Since then, the stock has carried on a blistering rally and is currently up 238% (at Rs 5485) from our original Buy call. We have received queries from you on whether any action is needed at this point. Here is where we stand on the stock:

• The business case for owning IRCTC in your long-term portfolio remains intact. We had picked out IRCTC as a promising growth stock on several counts. As the monopoly ticketing platform for the Indian Railways, IRCTC operates a high-margin, high ROE business with very little need for regular capital infusions.Over the next 3-4 years, IRCTC’s earnings have the potential to scale up sharply on the back of multiple drivers- a higher proportion of reserved and A/C tickets in its revenue mix, licensing opportunities from e-catering services, a vast and data-rich user base that lends itself to both monetisation and advertising revenues, apart from a promising pipeline of new businesses, ranging from its own payment gateway to its inroads into tourism and bus/air ticketing. With most of these themes in the nascent stages, the stock has potential to be a long-term earnings compounder. While the recent rally has made valuations unattractive as an entry point, the fundamental drivers that were the basis of our call remain in place. You can read about this in brief here and in more detail here.
• The threefold rally in the stock price since our Buy however, does factor in positives not only from the imminent resumption of Indian Railway’s normal operations but also from the likely ramp up in earnings over the next two-three years. The stock was expensive at the time of our call. With the price rallying well ahead of fundamentals, it has turned even more expensive now.
• Given its business drivers, we do think the stock will build wealth even from these levels for those who invested at lower prices. But as much of the stock price gains in the last seven months have come from PE re-rating, ahead of an actual improvement in earnings, the stock offers less margin of safety than at the time of our Buy call. Should markets correct or business or governance risks play out against IRCTC, PE de-rating could result in substantial price correction (40-50% cannot be ruled out). But a decline right down to our first Buy price is unlikely.
• Given the above, we suggest two possible courses of actions if you bought the stock on our recommendation.
  • If your primary objective in buying the stock was as a long-term portfolio holding and you do not care about interim corrections, you can hold it. If you exit the stock now just to pre-empt a possible correction, you’ll be forced to track its price action closely, decide on an ideal re-entry point and rebuild your positions if and when the price reaches that level. Getting all three steps right can be difficult and skipping any of them could mean missed opportunity.
  • If the stock is a large portfolio position and a steep price correction will significantly affect your portfolio value, then you should derisk by booking profits on part of your holdings and cashing in on the unexpected gains in the last 7 months. You should also book partial profits if you do not have the appetite for a 40-50% loss on the notional profits you’re sitting on today. In both cases, it will be best to sell enough of your holdings to retrieve the original capital invested in the stock and leave the rest in it. This would allow you to convert some notional gains to real money while also continuing to hold this solid stock in your portfolio.  

We will alert you if we change our stance on IRCTC’s business fundamentals at any time. Until then, sit back and enjoy the profits!