stock market outlook: Fear not! Multiple charts show Indian equities in comfort zone


At the time when equity markets globally are bracing for volatility in the run-up to the US elections, the Indian equity market is looking fairly valued going by two fundamental ratios – BEER and market cap-to-GDP.

After the September correction in the benchmark equity indices, the bond equity earnings yield ratio, or BEER, has come back near the long-term mean, which means the market is fairly valued at the current level compared with the bond market.

The 10-year bond yield stood at 5.99 per cent on October 1, while the one-year forward Nifty50 P/E was at 20 times, which indicates a BEER ratio of around 1.2.

This ratio is a metric used to evaluate the relationship between bond yields and earnings yield, the inverse of the price-to-earnings (P/E) multiple.

“The market is optically looking expensive on a P/E basis. However, actually, it is not,” says Mahesh Nandurkar, MD and Head of Research, at Jefferies India.

The price-to-earnings ratio of Nifty stood at 33.18 times on Friday against its 10-year average of 22.25.

“When you compare it with the risk-free rates and earnings yield, the market is actually at 20 times one-year forward earnings yield, which is 5 per cent. The gap between the 10-year bond yield and the earnings yield is just 1 per cent. From that perspective, the Indian market is not stretched compared with the risk-free rate,” Nandurkar told ETNOW.

“Market returns from here on should be in line with earnings behaviour. Going ahead, the market can easily deliver double-digit returns from a 12-month perspective,” he said.

Table 1 BEERAgencies

Indian equity benchmarks ended September in the red for the first time since March. The 30-share Sensex and 50-share Nifty each slipped over 1.50 per cent last month on subdued global cues and outflows of foreign portfolio money.

Brokerage Axis Securities says Nifty is currently trading at 20 times on a 12-month forward price-to-earnings (P/E) basis. “Overall, the divergence between returns of top 10 components against the remaining 40 has brought Nifty into the expensive zone. “Beyond the top 10 names, Nifty looks less expensive,” Axis said.

Meanwhile, the country’s market cap-to-GDP ratio, also known as Buffett Indicator, now stands at 77 per cent, marginally above its long-term average of 71 per cent.

The indicator – named after the legendary investor – is defined as the total value of a stock market relative to the economy’s GDP.

In general, the market is considered undervalued in the 50-75 per cent range, fairly valued in the 75-90 per cent range and modestly overvalued in the 90-115 per cent range.

Table 2 market cap to GDPAgencies

In the US, the market capitalisation-to-GDP currently stands at 174 per cent against the long-term average of 122 per cent. Besides, the US BEER ratio is now 1 standard below its long-term average, which shows the attractiveness of equity compared with the bond market.

Meanwhile, the correlation between the US S&P500 and Nifty has hit a high since 2015. In Calendar 2020, it has continued to rise, signalling that the recent rally in the domestic market has been driven by the global market. At present, the correlation between the two stands at 81 per cent.

India’s fear gauge India VIX hovers in the comfort zone and trades at 20 level against its long-term average of 22, which indicates that the market is looking less risky compared with the March 2020 level. That time, VIX moved in the panic zone around the 80 mark, which was earlier seen only during the 2008-09 Global Financial Crisis.

“The medium-term outlook of the domestic market is not looking pessimistic. However, uncertainty on the political front because of the US election can have a dampening effect on equity as an asset class. Thus, we may see some consolidation ahead of the election. There will not be any meltdown,” said Anil Sarin, CIO, Centrum PMS.





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