Coronavirus outbreak propels pharma funds forward; should you invest?

India is a global factory of generic drugs and many domestic drugmakers such as IPCA, Dr Reddy's and Cadila Healthcare have wherewithal to manufacture potential coronavirus treatment drugs HCQ (hydroxychloroquine sulphate) and chloroquine phosphate (CQP). But there's more at play that's driving investor interest in Indian pharma companies. Top reason is Indian pharma companies will have a role to play in production of new drugs.

"If tomorrow, hypothetically, some drug is found to be viable in treating coronavirus, no innovator company can have so much capacity to meet the volumes required. So, opportunities could be there for Indian players," says V Srivatsa, Executive Vice President and Fund Manager - Equity, UTI Mutual Fund.

However, Srivats says the benefits may not be extensive. "Those benefits, if at all they accrue, will be limited because obviously, you can't make big profit margins in it," he adds.

Besides, as multiple lines of vaccine and drug development take place all over the world, there's a possibility of multiple players being successful in finding the cure within short span of time.

Structural change or sentimental rally?

Developments around coronavirus treatment should not be the sole investment rationale in the pharma funds. It has to have structural elements and tailwinds added to it. "Once the hype around healthcare is over, drug regulation, price slabs and USFDA will have to be closely tracked," points out Sousthav Chakrabarty, CEO, and Director, Capital Quotient.

Do Indian pharma firms stand to gain on those fronts?

Experts believe there was already a visible turnaround in the pharma sector, both on the domestic as well as on the exports side even before any traces of COVID-19.

"What had changed in the last one year is consolidation in the exports markets such as US. Big players in the US such as Mylan and Tera had taken far more debt and did multiple M&As. Facing lot of pressure, they withdrew some of the products and pricing pressure started abating for the last couple of quarters. On the domestic side, due to the twin shock of demonetisation and GST, the pharma sector which was growing in the double-digit took a severe knock. Now we see growth coming back, going by data from the last five-six months," says Srivatsa.

Besides, the sector is at the bottom of the business cycle. It is still trading at attractive valuation, assuring high margin of safety, factoring in recent rally. The sector had consistently underperformed the broader market between FY15 and FY19. "The RoE moved from 27 per cent to 10 per cent and valuations moved from six times price-to-book (PB) value to two times PB between FY15 and FY19. Going ahead, as ROEs recover, valuations could also re-rate and may lead to a double bonanza," says Aditya Khemka, healthcare fund manager at DSP Investment Managers.

Additionally, Indian players have big basket of products awaiting ANDA approvals. "With health emergency in the world, regulators will take a lenient view in granting approvals where issues are minimal to ensure products are approved. So, growth rate will be high for pharma firms. The sector should outperform in the medium to short-term," he says.

Should you invest?

Sectoral funds have higher return potential but they come with elevated level of risk. You should have a limited allocation to sectoral funds in your portfolio provided the theme has longevity, that is, a long-term play. "Over the next few decades, we expect the requirement of healthcare to grow globally, and more so in India. Given the secular nature of the industry any investor with a long term horizon of for-five years should consider investing in the sector," says Vrijesh Kasera, Fund Manager- Mirae Asset Healthcare Fund.

While one may look at past performance and expense ratio to select a fund, it is hard to time your entry and exit. "Sectors go through cycles. Only investors who have the wherewithal to track and take judicious sector calls on entry and exit should look to invest in sector funds. Ideally not more than 5-10 per cent of the portfolio," suggests Kaustubh Belapurkar, Director - Manager Research, Morningstar India.

In the pharma space, you have two types of funds -- sectoral and thematic. "Thematic funds are slightly diversified, which include companies related to healthcare, hospitals, biotechnology, etc," explains Chakrabarty.

"SBI Healthcare Opportunities Fund has survived the test of time. Apart from that, Nippon India Pharma Fund is also good in terms of performance. An individual can go for these or can invest in the proportion of 40:60 in SBI's and Nippon's funds respectively," he suggests.

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