Pricey markets (The Hindu)

Mains Paper 2: Economy
Prelims level: Foreign Portfolio Investors
Mains level: Implications of Pricey markets

Context

• Investors are in a euphoric mood about Indian equities. Foreign Portfolio Investors (FPIs) have pumped in $7 billion over March and April while domestic investors doubled their equity fund bets last month.
• The tide of liquidity surging into stocks at a time of sluggish earnings growth has bid up the price-earnings (PE) multiple of the BSE Sensex to a new high of 29.
• This is higher than the PE at which the previous bull market of 2008 reversed. Stiff valuations are not automatically cause for panic as the fundamentals underpinning them are quite different from those in 2008.
• But they do call for caution.

Key aspects investors

• There are three key aspects investors need to keep in mind while evaluating current market multiples. One, when the Sensex PE topped 25 times in 2008 it was on the back of five consecutive years of 15-20 per cent profit growth from Sensex firms making for a high base effect.
• Sensex earnings today are coming off eight years of subdued single-digit growth, offering scope for a profit rebound that shrinks the PE. Two, there’s high polarisation within index constituents, with quite a few banking and PSU names trading below their historical valuations.
• Indian market valuations ten years ago were wholly dependent on FPI appetite, domestic institutions, with active retail participation, are now buyers of note in stocks.

Way forward

• Pre-election phases in India have been known to attract global event-arbitrage funds which take a quick punt on the event. Flows of this nature tend to dry up promptly after the event.
• Poll verdicts are also notoriously difficult to call, and an unexpected verdict can take the wind out of markets’ sails. It is also an unalterable fact that valuations at the entry point make a material impact on long-term equity returns for the investor.
• In this backdrop, it is imperative for mutual funds to stop peddling the narrative that elections don’t matter and to alter their messaging to convey the possibility of lower returns to investors.
• Having consistently got their profit projections wrong for the last eight years, sell-side firms are now budgeting for a 50 per cent plus earnings rebound for India Inc in FY20.
• The actual scorecard for the January-March quarter will be critical to decide if this has a chance of panning out.
• Therefore, retail investors would do well to take the bullish commentary now being put out by mutual funds, sell-side firms and foreign brokers with a pinch of salt and wait for India Inc’s earnings to catch up before going whole hog on equities.

Online Coaching for UPSC PRE Exam

General Studies Pre. Cum Mains Study Materials

Prelims Questions:

Q.1) Which of the following are the expected benefits of GST?
1. It will create one Indian market.
2. It will expand the tax base.
3. It will foster cooperative federalism.

Select the correct answer using the code given below.
(a) 1 and 2 only
(b) 2 and 3 only
(c) 1, 2 and 3
(d) 1 and 3 only

Answer: C

Mains Questions:
Q.1) Investors need not panic at high Sensex valuations, but they must tone down expectations. Explain.