India’s headline indices S&P BSE Sensex and Nifty 50 have been hitting new highs since the June 4 debacle when the market collapsed on election results that did not give the Bharatiya Janata Party (BJP) an absolute majority. There was no looking back after that, the Sensex rallied over 8,300 points while the Nifty jumped 2,500 points. In percentage terms, the gain is to the tune of 11.5%.
On June 4, the Sensex touched a low of 72,079 while the Nifty touched a low of 21,884.50. Both indices hit fresh lifetime highs of 80,392.64 and 24,401 today.
“We agree bullish arguments — sound macros, strong earnings growth, long-term growth prospects — are meaningless without an overlay of valuations. It is clear that the same argument does not hold at all price levels,” the note said.
Here are Kotak’s 5 beliefs for investors:
Myth 1: Indian market at fair valuation
Kotak debunks what he calls the myth that ‘Indian markets trade at fair valuations’. It said that this superficial view of the Indian market is generally based on the valuation of the Nifty-50 index. The Nifty-50 index may be reasonably valued in terms of historical valuations and bond yields but most other segments of the market are trading at full-to-full valuations after massive rerating of their multiples over the last 2-3 years.
To support his point, Kotak said most of the non-BFSI stocks in the Nifty-50 index were trading at elevated multiples. The 1-year forward P/E of 38 non-BFSI Nifty counters is currently in the range of 111 (highest) and 7 (lowest) with Grasim Industries topping the chart while ONGC is at the bottom. Titan’s 1-year forward P/E is 67 while that of Tata Consumer Products is 64. Britannia Industries and Asian Paints are around 52 and 52 respectively.
Adani Ports and SEZ’s 1-year forward P/E rose to 29 from 17 in March 2019.
Coming to BFSI stocks, the lowest 1-year forward P/B for State Bank of India (SBI) was 1.4 in March 2019 and 1.3 in March 2014. For HDFC Bank, it has come down from 3.8 to 2.6. In March 2019. Kotak Mahindra Bank, IndusInd Bank, HDFC Life Insurance, Bajaj Finserv, Bajaj Finance and Axis Bank are the other stocks that have seen decline in 1-year forward P/B from March 2019 levels.
Myth 2: A strong argument for GDP growth
Kotak said the strong GDP growth argument is not valid at all price points and is not a sufficient condition for strong equity returns. Indian markets have shown time-correction even during periods of strong GDP growth. This note shows how India’s GDP growth has remained in a tight band while the market P/E has moved in a wider band linked to expectations about the future.
Market forward returns have an inverse relationship with the price paid and the correlation has weakened in the post-pandemic period.
Because of expectations of higher returns from equities at all price points in a segment of the market.
Myth 3: Higher after-tax return on equity versus debt
Comparing the after-tax returns of equity and debt to apples and oranges, he said it is often heard that the higher tax return of debt versus equity was the reason for the strong participation of retail investors in the equity markets. There are two obvious flaws in this argument – one is that it does not capture all price points for equities; At higher prices the yield (return) will be lower and secondly, equity carries more risk than debt and the difference in risk profile reflects the specific risk premium for equity.
4) Myth 4: Given strong earnings CAGR
Investors believe that Indian equities are predestined for strong earnings growth over the long term. While he agreed with the view, Kotak said he would not dwell on the issue. It notes that most domestically-oriented sectors are currently enjoying high profitability. Investors may want to remember (or forget) that many high-flying sectors have ‘crashed and burned’ in the past, with two current market favorites viz. electric utilities and real estate, the note said.
Myth 5: Flows determine returns
Many investors remain entrenched in their belief that ‘flow’ can explain excess returns over the long term. While much focus was earlier on decoding the mood of foreign investors, it has of late shifted to understanding the sentiment of retail investors.
He said flows will follow expectations and market prices reflect changes in expectations, not changes in flows. The net amount of ‘money’ in the secondary market is always zero because someone will be buying and someone will be selling at all times and at all prices.
Also Read: Momentum Pick: Will Zomato’s 21% Return in One Month and Technical Breakouts Trigger Second Phase of Rally?
(Disclaimer: Recommendations, suggestions, opinions and views given by experts are their own. These do not represent the views of Economic Times)
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