THE VAL­U­A­TION GAME

An­a­lysts feel the mar­ket is not over­heated yet de­spite its sharp rise in the past one year

Business Today - - BT500 | STOCK MARKET - By Tripti Ke­dia Il­lus­tra­tions By Raj Verma

Be­tween Oc­to­ber 2016 and Septem­ber 2017, the pe­riod for which the BT 500 cal­cu­la­tions have been done, the Sen­sex went up by a stag­ger­ing 3,040 points – a gain of 10.8 per cent. The Nifty rose 12 per cent, zoom­ing from 8,738 to 9,788. The av­er­age mar­ket cap­i­tal­i­sa­tion of the com­bined BT 500 com­pa­nies rose to ` 113 lakh crore, from ` 94 lakh crore in the year-ago pe­riod. Since Oc­to­ber 1, the mar­kets have risen fur­ther. On Novem­ber 21,

the Sen­sex closed at 33,478 and the Nifty at 10,326.

Ask an­a­lysts at Dalal Street whether eq­uity mar­kets have moved up too fast and too high and you will get con­trast­ing an­swers. “We are in the middle of a multi-year bull run,” says one. Another says that it is time to be a bit cau­tious while in­vest­ing fur­ther. How­ever, most are not will­ing to stick their necks out and make firm pre­dic­tions.

What does the price-to-eq­uity (PE) ra­tio – a barom­e­ter of how heated or de­pressed the mar­ket is — in­di­cates? The BT 500 study showed that of the top 500 com­pa­nies, at least 345 were trad­ing at above their five-year me­dian PE mul­ti­ples. Does this show the mar­ket is over­heated and most stocks are over­val­ued? Or is there still head­room for the mar­ket to rise?

It boils down to the his­tor­i­cal met­rics you are com­par­ing it with. Ji­gar Shah, CEO at May­bank Kim Eng Se­cu­ri­ties In­dia Pvt Ltd., is quick to re­call the 2007/08 rally. “If this is the peak of the mar­ket, then let us look at 2007/08, as it was mul­ti­ple times worse. We are nowhere near the pre­vi­ous peak. At present, the Nifty PE is 5 per cent higher than the long-term av­er­age, the 10-year av­er­age Nifty PE be­ing 16.2 times.” The nine year av­er­age Nifty PE be­tween

1999 and 2008 was 17.75 Oth­ers echo the view. Ac­cord­ing to HDFC Se­cu­ri­ties, the Nifty PE mul­ti­ple is cur­rently around 25 for FY17-18 and is much lower than the peak of

28 in Jan­uary 2008. Sim­i­lar is the case for many of the 345 com­pa­nies BT picked.

Not Over­heated

Aashish So­maiyaa, MD & CEO at Moti­lal Oswal AMC says,

“The un­der­tone has been that of a very bullish eco­nomic fore­cast for the fu­ture and the mar­kets have re­sponded to that. But there has been some dis­ap­point­ment in earn­ings de­liv­ery.” The mar­kets have, in fact, been on a bull run – with just a few pauses – since the Modi govern­ment came to power in May 2014. Both the bench­mark in­dices have ap­pre­ci­ated be­tween 35 per cent and 40 per cent.

Once in a while, there has been a fall – trig­gered by events such as the de­val­u­a­tion of the cur­rency by China, the Re­serve Bank of In­dia’s As­set Qual­ity Re­view for banks, de­mon­eti­sa­tion and roll­out of the Goods and Ser­vices Tax. The one point that has wor­ried many mar­ket an­a­lysts is sub­dued cor­po­rate earn­ings. De­varsh Vakil, Head-Ad­vi­sory (Pri­vate Client Group), HDFC Se­cu­ri­ties, says, “For the last four years, earn­ings have dis­ap­pointed and grown at a CAGR of hardly 1-2 per cent. It is the ex­pec­ta­tions of fu­ture earn­ings which are driv­ing the PE.”

There­fore, the cur­rent Nifty PE of 25 may look high to some, but mar­kets price in the fu­ture, and for FY19 the PE stands at 17, which ac­cord­ing to an­a­lysts is rea­son­able. By the very def­i­ni­tion, PE is price di­vided by earn­ings and mar­kets al­ways trot ahead, pric­ing in the fu­ture. Fu­ture earn­ings are de­pen­dent on fu­ture growth prospects and an­a­lysts are hop­ing that earn­ings, which have been stub­bornly stag­nant and dis­ap­point­ing to the su­perla­tive de­gree for the last three years, will now move up­wards.

The mar­ket has been driven by liq­uid­ity de­spite the earn­ings dis­ap­point­ment. The growth rate of con­sen­sus earn­ings this year has been 14 per cent. Ji­gar points out that it is ex­pected to be 24 per cent next year. He says, “If earn­ings don’t catch up, we could see a 5 per cent cor­rec­tion.” The sec­ond quar­ter re­sults have been cau­tiously en­cour­ag­ing. While sales of Nifty com­pa­nies grew 11 per cent, profit af­ter tax grew 13 per cent. Growth seems to have picked up. Aashish So­maiyaa says, “We are see­ing early signs of earn­ings re­vival al­ready.

TINA ef­fect

The ‘ There Is No Al­ter­na­tive’ (TINA) ef­fect has been driv­ing un­prece­dented liq­uid­ity into

the mar­kets, both by re­tail in­vestors and do­mes­tic in­sti­tu­tional in­vestors. No other as­set class looks as at­trac­tive as eq­ui­ties and there­fore De­varsh says that “the flow is sus­tain­able”

Where are fund man­agers putting the money? De­spite high PEs, fund man­agers of var­i­ous mu­tual funds have a com­pul­sion to park the money as a very limited per­cent­age can be held in cash. But op­tions are limited as small-caps and mid-caps have al­ready been termed frothy; Moti­lal Oswal As­set Man­age­ment even closed their mid­cap port­fo­lio man­age­ment ser­vice be­tween Jan­uary and Septem­ber this year. So, where are they find­ing value? Well, clearly not in the high PE sec­tors like realty, con­sumer durables and FMCG. Ji­gar of Kim Eng Se­cu­ri­ties men­tions themes like pri­vate banks, pri­vate fi­nan­cial com­pa­nies — sec­tors that will be pos­i­tively im­pacted by the govern­ment’s thrust on in­fra­struc­ture like the Bharat­mala project and which sup­port busi­nesses of con­struc­tion equip­ment, ce­ment, lo­gis­tics and power trad­ing.

Now, if one looks at the cur­rent PE of sec­tors in th­ese spa­ces, the power in­dex has an earn­ings mul­ti­ple of 20, while met­als and cap­i­tal goods are trad­ing be­tween 27 and 30, all of them of­fer­ing value.

How­ever, Aashish says that Moti­lal Oswal AMC is hold­ing through some mar­quee pri­vate banks and putting in fresh money in in­sur­ance and oil mar­ket­ing com­pa­nies. Be­sides, white good com­pa­nies are also a part of the port­fo­lio. What looks over­val­ued are some NBFC stocks, he says.

Risks and wor­ries

There are sev­eral fac­tors that could de­rail this rally. The first is a fall in global mar­kets. Ji­gar warns: “Glob­ally, mar­kets are at an all-time high and gen­er­ally mar­kets tend to mimic each other. ” The sec­ond is cur­rency tur­bu­lence. Trade deficit num­bers are at a three-year high and fun­da­men­tals are not sup­port­ing the cur­rent strength. Fi­nally, there is the spec­tre of oil prices ris­ing fur­ther. It will have a cas­cad­ing im­pact on the trade deficit and the cur­rent ac­count deficit.

And of course, there are the re­sults of elec­tions in Gu­jarat and Hi­machal Pradesh. At the mo­ment, the mar­kets have fac­tored in a BJP win in both, and if that doesn’t hap­pen, we could see another cor­rec­tion.

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