Rich Valuations may Cap Nifty Upside in Near Term
TIME TO CATCH YOUR BREATH Most favoured stocks are trading above their fair value
Ashutosh .Shyam ET Intelligence Group: The valuation comfort of analysts towards large prominent companies in the benchmark Nifty 50 is waning. The recent sharp rally in the most favoured companies in the Nifty such as Eicher Motors, Ultratech, Hindalco, Aurobindo Pharma, Tata Steel, Bhel, Bank of Baroda, and Ambuja Cement seems to factor in the projected estimated earnings for the next fiscal. It is estimated that these ‘most’ favoured stocks are trading 40-120% higher than their long-term average price-earnings multiple.
As a result of this, the benchmark Nifty index trades at 17.4 times FY17 earnings per share (EPS) and 14.5 times FY18 EPS suggesting that the valuation is rich. Several brokerages believe that market upside will be capped in the near term in the absence of significant positive triggers.
Among the Nifty constituents, nine stocks are trading 10-42% higher than their target price issued by domestic brokerage Ko- tak Institutional Equities. Some of these 20 stocks which are trading 0-42% to their fair value are Eicher Motors, Ultratech Cement, Hindalco, and Tata Steel. In addition, there are 10 stocks, which are trading 0-10% below their respective target prices. These include Lupin, Maruti, Bharti Airtel, and Reliance Industries. From the recent low of 6970 on February 25, the Nifty has gained 15%, and stocks such as Hindalco, Tata Steel, Bhel, Bank of Baroda, ACC, Ambuja Cement have gained 20-52% in the
same period. Among these, the valuation of Eicher Motors, Ultratech, Hindalco, Bhel, Ambuja Cement is more than 25 times their FY17 projected earnings.
The biggest concern is lack of positive triggers till the September quarter when some benefit of low base effect for earnings growth may be visible. Analysts foresee a potential earnings downgrade due to slow investment cycle. The consensus earnings growth for the current fiscal stands at 23% and runs the risk of a downward revision by 5-7%. In each of the past five years, earnings growth was downgraded by 5-12%.
Considering this, brokerages are tweaking their model portfolios to reduce the amount of ‘risk’ from their portfolio and focusing on stocks with predictable growth and reasonable valuation. For instance, CLSA removed Cairn India and Coal India. In addition, it replaced Marico by Dabur. Similarly, Kotak removed Hero MotoCorp from the large-cap model portfolio and reduced the weight of M&M by 100 basis points.