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Charts & Analysis

Chart: Nifty Aggregate Revenues and Earnings Both Dip 2% Year on Year

Nifty aggregate earnings (added up) are now DOWN 2.25% from the June quarter last year. This, combined with the Nifty just 5% from all-time highs is, one might think, a little effervescent. In more understandable English terms: We are in a bubble.

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But Markets, they can go a long way before they pop. So don’t rush to sell, unless you are scared of the volatility. But if you’re scared of volatility why are you in the markets?

The thing I do is to keep a stop loss below the current market price. 15-20% below. And who knows where markets could go – if they go up another 20% and drop, I might have made a lot more. But the understanding that this is not really driven by earnings is necessary to know when the stop loss hits and the urge is to wait because of the glorious India story.

  • Ramki says:

    One can also argue that the Nifty’s current valuation is assuming the drop in earnings/revenues (in this FY) to be one off- and that the same should get rectified quickly next FY (FY17). Of course, broader markets can very well celebrate a Fall in earnings (in 1991-92 period ??) or mourn improving earnings (In 2006-07 for example) !!

  • esotericBlue says:

    unless one is in a stock/company like maruti suzuki. but even then, when the tide (the low type) comes, even maruti suzuki might/would take a beating. in a way, the low tide might help differentiate the fundamentally driven stocks vs. the ones that just had a merry time in the one-off april 2014 PE expansion revelry.

  • shashankjogi says:

    The Nifty EPS (as per NSE Data) is down 5% actually over an year ago (381 to 362) even as the book value per one Nifty unit is up about 7%. But I think that on aggregate, we are hardly in bubble zone though many stocks are already there on an individual basis. The hope for a better future is keeping markets afloat and we shall see how this plays itself out.
    Having said that, there is a tendency to compare historical valuations (PE, PBV, etc) to ascertain the state of headiness in the markets. But anchoring valuations to historical PE (for instance) is misleading. First, the composition of Nifty has changed over the past on account of change in methodology of calculation as well as on account of the performance of stocks within the Nifty basket. 10-12 years ago, ONGC was about 8%+ of the Nifty while HDFC Bank was less than 2%. Today HDFC Bank is about 7.5% of the Nifty while ONGC is now at 1.6% or so. HDFC Bank has always been given a much higher PE multiple by the market compared to ONGC and hence such changes make the Nifty PE go up and look optically expensive compared to history. Similarly, HDFC is now second ot third in the weightage list with 7% now; it was below 2% in 2003. Also account for the change of calculation methodology (change from total market cap to free float) which means PSU stocks like ONGC, SBI, etc which had a higher weight have a lower weight in the Nifty now. Furthermore, stocks go out and are replaced by newer ones over time. So comparing current PE or PBV ratios to historical ones is like comparing red apples to golden apples. And devising trading methods based on such simplistic rules is likely to be sub-optimal to say the least.
    As we go into the future, better performing stocks (probably those with superior return on capital) will increase in market cap and hence in weight on the Nifty and the laggards will fall behind. Stocks with a higher ROCE or ROE are trypically valued higher by the market and hence the aggregate normal PE is likely to increase over time…till these stars hit a roadblock and PE starts falling again. We can see this happening now as Private sector banks have replaced IT as the top sector and pharma is gaining ground as well at the expense of Oil/Gas (maybe). So there always will be a fluctuation in the ‘right’ PE of for the Nifty.
    Coming back to the bubble argument, Nifty has a PE of 23+ and a PBV of close to 3.5, (expensive if you look at history) which given the nature of the businesses in the top 50% of the Index (HDFC Bank, HDFC, Infy, ITC, etc, the weighted average ROE for Nifty would be 22%+ not considering the current quarter performance though), does not suggest a bubble at a PE of 23+…not cheap for sure, but not a bubble waiting to burst. It can surely go down to any extent, but a crash does not imply the existence of bubble before the crash.
    Finally, the flavor of the season (Indian stocks…partly justified, partly hyped) gets ever-increasing investor interest and their monies even though a throrough bred (value) investor would find little to buy. And this love affair can continue and often does continue longer than we can imagine or dare to predict.
    Humans tend to fall prey to various biases, one of which is the conservatism bias: we form an opinion and then search for data that confirms our opinions, while rejecting that which does not. Lets hope I am not falling prey to the above by rejecting your claim of a bubble.

    • I think I’d disagree. THe US P/E ratio of its index has been between the 10s and the 20s/30s for most of its life, and its constituents too have changed a lot.
      The point isn’t about the P/E per se – it’s the PEG ratio – or the PE to growth ratio. You simply do not pay 22 P/E for an index that has grown, in the last 5 years, in single digit percentages CAGR, and you gave it > 20 P/E all those years. That just has to reverse…