A contrarian view on India’s top rail stocks and why they could face a roadblock

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Indian railway stocks have witnessed an unprecedented surge in their stock prices over the past two years, with some stocks skyrocketing from less than ₹20 to as high as ₹100 during the bull market. This remarkable growth can be attributed to the industry's vast scale, extensive network connections, and the anticipated surge in demand for its services. India's rapid economic growth is fueling an increase in demand for both freight and passenger rail services.

The government has played a significant role in fostering this growth by committing to substantial investments in the railway sector in the upcoming years. The focus is on upgrading the country's railway infrastructure to achieve higher efficiency and reliability. These factors have collectively contributed to the lofty valuations of Indian railway stocks.

IRFC, the financing arm of Indian Railways, is trading at a P/BV of 2.5x, while IRCON International, a leading public sector construction company in transportation infrastructure, is trading at a P/BV of 3.5x. Texmaco Rail, the largest supplier of wagons to Indian Railways, is also trading at a premium valuation. With strong balance sheets, high growth prospects, and renewed government focus, one might wonder what could possibly go wrong for these top railway stocks? However, investors might be overlooking a significant risk highlighted by one of Porter's five forces – competition from substitutes.

In this case, the substitute is the Indian aviation sector services. Investors may be conveniently disregarding the potential threat posed by Indian airline services, which could impact the sustainability of the elevated valuations of these railway stocks. This risk is elevated considering that no nation in the world is