10 rock-solid stocks with stable earnings

From dust, we came, and to dust, we shall return. The universe's hunger for disorder and randomness is unrelenting. The markets, too, share a similar insatiable hunger for volatility. But like our pale blue dot in the universe, there exist pockets of certainty in the market: Companies with stable earnings. These companies might not fetch you the adrenaline rush of the high-risk, high-reward investment style. They can, however, help you survive the randomness of the market, minimise the risks and grow your wealth over long periods. But beware! This stability comes at a cost. After all, there is no such thing as a free lunch. So, in this issue of Wealth Insight, we explore an investment strategy based on these stable wealth generators. Also, a handy framework awaits you further down this journey to help you identify these stable companies. Before that, we must cover the boons and banes of this investment philosophy. Without further ado, let's dive in. The search for order in disorder: How stable earnings in companies can help mitigate market volatility From the beehive to our concrete jungle, all life seeks to create order in a universe governed by disorder. The plight of investors is similar. The markets are inherently volatile. So, how does one create a portfolio that can generate stable returns? Several investing strategies have cropped up over the years in this pursuit. Some invest in only large companies, believing that grandeur is the cure for volatility. Some look at companies with a history of stable returns in hopes that history will repeat itself. The markets have more often than not proved that these strategies seldom bear the expected results. One can, however, borrow a page from the playbook of life itself. In the disorderly universe, life thrives in pockets of order. So, the answer might lie in spotting order in the ever-changing market. Price movement, as the wiser investors know, is unpredictable, at least in the short term. Earnings, however, are relatively more predictable. Companies that have consistently shown stable earnings are likely to continue doing so. But does stability in earnings lead to stable returns? For that, we turned to one of the most stable earners of the Indian economy: The fast-moving consumer goods sector. A case study on chaos The fast-moving consumer goods (FMCG) sector has undoubtedly been one of the most resilient sectors of the past 15 years. In contrast, the Indian automobile industry is notoriously cyclical. Both had similar levels of cumulative profit before tax and exceptional items 15 years ago. Their present (FY23) cumulative earnings are also comparable. However, their journey couldn't differ more. The FMCG sector grew its cumulative profit before tax and exceptional items in 14 out of the last 15 years. In contrast, the automobile industry did so in only 10 of the last 15 years. But the question is, did this consistency in earnings translate into stable returns? To find out, we looked at the performance of the BSE FMCG index and the BSE Auto index in the last 15 years. Here's what the numbers say: In the 205 months from April 2007 to April 2024, the BSE FMCG index fell more than 5 per cent in only 13 months. The BSE Auto index, however, fell in a troubling 30 months. Also, while the steepest decline for the FMCG sector was 17 per cent, it was 31 per cent for the auto sector. The results underscore a strong relationship between stable earnings and downside protection. Simply put, if a company's earnings are stable, its market price is less likely to suffer steep declines. We wanted to go a step ahead and enquire how deep this connection is. To do so, we calculated the five-year rolling returns of the BSE FMCG and BSE Auto indices since 2012, as seen in the graph. This is what we found: In terms of upside potential, the BSE Auto index led the way, with an impressive five-year annual return of 40 per cent. The BSE FMCG index was ahead when it came to protecting capital. It never recorded a decline on a five-year annualised basis. The BSE Auto index, however, fell in value in 13 of the 145 five-year-long periods we observed. The FMCG sector was also more consistent. It beat the Sensex in 90 five-year-long periods. The auto sector did so in only 85 periods. So, the verdict is out: If capital protection takes precedence over lofty gains, stable earners should find a place in your portfolio. They offer more downside protection and lower price volatility. But before you rush to find these stable earners, know that stability comes at a cost. The cost of stability Despite their advantages, there are certain downsides of investing in stocks with stable earnings. Ever heard of Tardigrades? These are microscopic creatures that resemble bears and can survive extreme temperatures and even the vacuum of outer space! Talk about resilience. Surely, we humans cannot hold a candle to Tardigrades in the contest of survival. But, when it comes to awe-inspiring works of art, Tardigrades might learn a thing or two from us. Stables earners are akin to the Tardigrades of the market. They are resilient, have survived many market apocalypses and are likely to persevere through a few more. But when it comes to inspiring returns, they might lag behind. For instance, most stable earners fall under the large-cap bracket. When Covid hit, large caps offered the comfort of stability and fell far less than the average small-cap or mid-cap company. But once it was sunny again after the pandemic, small and mid caps left most large caps in the dust, both in terms of earnings growth and price

This article was originally published on May 01, 2024.