Should You Invest in Defence Stocks Like HAL, BEL, and Mazagon Dock After Recent Declines?

In recent months, several top-performing Indian defence stocks have seen sharp declines. Defence sector giants like Hindustan Aeronautics Ltd (HAL), Bharat Electronics Ltd (BEL), Cochin Shipyard Ltd, Mazagon Dock Shipbuilders Ltd, and Garden Reach Shipbuilders have all dropped by as much as 42% from their highs in July 2024. Despite these setbacks, these companies have offered impressive gains over the last year, ranging between 105% and 193%. So, should investors take advantage of this dip? Let’s explore the sector’s outlook and weigh the risks and potential returns.

Performance Overview: HAL, BEL, and Other Major Defence Stocks

The year 2024 has been eventful for India’s defence sector stocks. Companies like HAL, BEL, Cochin Shipyard, and Mazagon Dock have been investor favourites, showing remarkable growth rates. However, after peaking in mid-2024, these stocks are now facing declines, ranging between 20% and 42% from their all-time highs. Despite the recent corrections, these stocks remain among the top multibagger performers over the last year.

1. Recent Price Corrections

• Hindustan Aeronautics Ltd (HAL)

• Bharat Electronics Ltd (BEL)

• Mazagon Dock Shipbuilders Ltd

• Garden Reach Shipbuilders & Engineers Ltd

Strong Fundamentals Support Defence Sector Growth

While stock prices have declined, the fundamentals supporting growth in the defence sector remain strong. The outlook is bolstered by a steady pipeline of domestic orders, increasing exports, and ongoing government support for self-reliance in defence manufacturing. Recently, Defence Minister Rajnath Singh stated that India’s defence exports are projected to reach ₹50,000 crore by 2030, which has boosted confidence in the sector’s long-term growth potential.

Solid Order Pipeline

Defence stocks continue to enjoy a healthy order backlog, reflecting the Indian government’s efforts to modernize the armed forces. Ongoing projects, modernization contracts, and strategic export orders contribute to the sector’s positive growth outlook.

Government’s Import Ban and Domestic Manufacturing Push

To reduce reliance on imports, the Indian government has imposed bans on multiple defence products, creating substantial opportunities for domestic companies. This policy shift has expanded the order books for defence sector players, driving their revenues and valuations.

Valuations and Market Sentiment: Analysts’ Caution

Analysts remain cautious on valuations, which are trading above historical averages despite recent declines. The Nifty India Defence PR Index’s forward price-to-earnings (P/E) ratio reached a peak of 58x in July 2024, well above its three-year average of 29x, before recently settling at 41x.

Anil R, Senior Research Analyst at Geojit Financial Services, warns that while the long-term outlook is promising, valuations for many defence stocks are not yet in alignment with slower near-term execution timelines due to supply chain constraints. This misalignment could result in further corrections, leading some stocks to underperform in the short term.

Execution Risks

The significant order book growth poses certain execution risks. Defence projects tend to be complex and may face delays due to supply chain issues, logistics constraints, and technological challenges. As a result, companies might struggle to meet high expectations, which could impact their stock performance in the near term.

Key Performance Indicators from Defence Majors: Bharat Electronics’ Strong Q2 Results

Among defence majors, Bharat Electronics has stood out with an impressive Q2FY25, reporting solid revenue growth driven by a substantial order backlog of ₹746 crore. Analysts at Motilal Oswal Financial Services predict that Bharat Electronics will remain a prime beneficiary of upcoming defence orders, especially in segments such as naval systems, electronic warfare, artillery, and export markets. MOFSL expects BEL’s revenues to grow at a compound annual growth rate (CAGR) of 19% between FY24 and FY27.

Key Insights and Recommendations from Analysts

Experts suggest that the defence sector’s medium-to-long-term potential remains high, although caution is warranted for near-term valuations. Given recent corrections, investors may have the opportunity to buy these stocks at more reasonable prices.

• Chokkalingam G, Founder of Equinomics Research Pvt Ltd, notes that while fundamentals remain strong, valuations are yet to offer comfort in many defence stocks.

• Motilal Oswal Financial Services pin points to Bharat Electronics as a key player expected to benefit from the ramp-up in defence orders.

Conclusion: Should You Buy the Dip?

While the recent correction in defence stocks like HAL, BEL, and Mazagon Dock may appear concerning, the sector’s growth potential remains intact, supported by government policy, a strong order pipeline, and increasing export demand. However, the current valuation levels and potential near-term execution risks suggest that investors should exercise caution.

Long-term investors may consider a phased approach, gradually accumulating shares at lower levels. As the sector undergoes transformation, those with a long-term horizon may benefit from India’s continued focus on defence self-reliance and increased global demand.

Disclaimer: The views presented here are for informational purposes only. Investors are advised to conduct thorough research and consult financial advisors before making any investment decisions.