It is strange, yet most of the times it is true that consumers are more cautious about the price they pay than the equity investors. When it is discount season, consumers flock and shop more; unlike equity investors who get swayed by the exuberance and end up buying when valuations look expensive.

You may be surprised to know that, some of the Indian companies are the most expensive ones in the world; yet investors are chasing them. Indeed, India is a booming economy with favourable demographics, but even after considering that, valuations of some companies are unjustifiably higher vis-à-vis their global leaders in the respective industries.

For example, the Price to Earnings Ratio (P/E) ratio (which is the most commonly used valuation ratio) of Asian Paints is nearly 4 times higher than that of the PPG Paints, a global leader in paints. Market capitalisation of the Asian paints is however less than half of that of PPG Paints. In other words, if Asian Paints keeps rallying the way it has been for last 5 years, its market value would easily cross that of the PPG Paints. Sounds unreasonable, isn’t it? This is not just one example. Many well-known Indian companies such as Hindustan Unilever, Maruti Suzuki, UltraTech Cement, HDFC, Larsen and Toubro, and DLF currently command unimaginably higher valuations as compared to the global leaders in their respective industries.

If you consider the valuations of the bellwether index, S&P BSE Sensex, you would find that Indian market is not cheap at all. Rather, it is of the most expensive ones across the world.

Are high valuations justifiable?

(Source: Business Standard, PersonalFN Research)

From a market capitalisation point of view the mid and small caps have run ahead of large caps. But valuations in mid and small cap segments are not cheap either when compared with their historical averages.

What has led the market to tread the upward path?
There are expectations that the Indian economy would reinvigorate in the foreseeable future as the Modi-led-NDA Government is trying to implement its reformist policies. Moreover, by cutting policy rates, RBI has hinted that it would support growth when inflationary pressure is under check and the outlook is benign. The softened international crude oil prices have brought much relief to Government as India oil consumption is largely import dependent. This has triggered off sharp rallies in Indian stocks. Moreover, possible macro-economic positives are already factored in stock prices.

Are high valuations justified?
In this scenario, high valuations can be justified only if corporate profits rise rapidly. Going by the current trend, even that seems unlikely. As reported by the Business Standard on January 27, 2015, sales growth of corporate Inc. was in the negative territory (-3.16%) in the 3rd quarter of the current fiscal; while, the rise in the net profit was muted (3.53%). For measuring Year-on-Year growth in sales and net profit, average of 298 prominent companies which have declared results so far, has been considered.

Some companies which are considered bellwethers in their respective industries paint a gloomy picture. For example, Information Technology sector, which had offset bad performance of other industries in the last, quarter, have reported lacklustre numbers this quarters. To add to worries, it is also expected that, real estate, constriction, oil and gas and automobile sectors are likely to report bad or ordinary results.

PersonalFN is of the view that, current market rally is now being driven only by the global liquidity. Recently, the European Central Bank (ECB) announced a massive stimulus package for the Eurozone, whereby it will inject about 60 billion Euros every month until September 2016. Likewise with the U.S. Federal Reserve having taken a patient stance on increasing policy rates after the end of the bond-buying programme in the U.S. has aided in building a period of risk-on.

But amid such time of exuberance, PersonalFN believes it would be wise to be cautious while investing and not indulge in speculating. Sensible investing and rebalancing your investment portfolio can do well for your long-term financial wellbeing. If you have laggards in your equity portfolio, it is an opportune time to discard them – be it stocks or even mutual funds. To avoid any misjudgement, stick to your financial plan and opt for mutual funds in case you don’t have time and skills to invest directly in stocks.

Add Comments