Price is what you pay, value is what you get – Warren Buffett
Disclaimer: The below content is just for information and should not be construed as an offer to buy or sell or recommendation. Contact your financial advisor for guidance on any investment related query. This article is just thinking out loud and to document my thoughts at certain points of time.
NIFTY has performed reasonably well this year, up ~8%. This is good considering other emerging markets. Markets like China have struggled for some time now. India has been good performer on a relative basis.However, This does not mean that NIFTY has delivered very high returns in recent past. In fact, NIFTY has delivered low single digit return in previous year and NIFTY return over the last two years is ~11% (less than 6%/year). So, the market has not given very strong returns in recent past but it has not fallen when many other markets have struggled. I look at some valuation parameters for NIFTY and what it means for returns over the next year?
NIFTY valuation is not very expensive per se
In the below table, we look at the data available in the NSE website. I don’t like to look at valuation metrics based on earnings growth assumption as these assumptions frequently change. The valuation metrics used below are available since 1999. P/E ratio gives us an idea of current price relative the profit earned in a year for each share. The current P/E ratio of NIFTY is 22.1 that is slightly above the long-term average of 20.8. The current P/B (price to book value) of NIFTY is near long-term average. The dividend yield (profit distributed by company to its shareholders divided by price) is 1.4%. This is also around long-term average. So, out of three valuation metrics that we have, only one metric (P/E ratio) is indicating slightly expensive valuation.
However, not being expensive doesn’t mean being attractive either
One of the reason why NIFTY’s valuation is not very expensive is very strong earnings recovery in last few years. For a long period of time, NIFTY was expensive but did not fall as earnings were growing faster. NIFTY earnings have grown at 15%+ over the last 5 years and that is quite high. So, above average valuation on P/E basis when earnings have grown very quickly makes NIFTY more expensive than the current P/E suggests.
In past, NIFTY has delivered single-digit returns over the next year from such level of valuation
When valuations are not particularly attractive, it does matters for future equity market returns. Normally, rich valuations at the time of investing mean relatively lower subsequent return. Based on the current P/E ratio alone, I won’t be surprised by single digit returns from NIFTY over the next 1 year.
Does this mean it’s time to sell?
Timing the market perfectly is very difficult. As I have noted earlier, NIFTY is probably less expensive portion of the Indian equity market. Mid and small caps are probably more expensive ( read here). Personally, I am:
- Doing SIPs in technology funds as the sector is undergoing a phase of correction and consolidation
- Switching out from mid and small caps to hybrid and balanced advantage funds
- Keeping some cash (20-25%) for deployment during any correction, if at all we get a correction
- I think staying fully out from equity markets is a very big mistake.
Disclaimer: The above content is just for information and should not be construed as an offer to buy or sell or recommendation. Contact your financial advisor for guidance on any investment related query.
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