NIFTY PE ratio (Price to Earnings Ratio) is at historical high of 32.
This is a kind of bipolar market where many stocks in the indices are enjoying too high valuation and on the other hand there are many stocks in the indices at quite low valuations. We may see the rerating of the market in the time to come.
Few scripts have reported huge losses like Bharti Airtel, Tata Motors, Tata Steel etc. If these companies start reporting profits, the NIFTY PE can come down drastically. If that do not happen and the high valuation stocks start rerating first, the markets may see drastic correction.
If the market slowly does rerating, we may find range bound activities for few quarters.
In many PSU stocks, the government has reduced its stake to 51%. If it reduces more, it will change its definition from PSU to professionally managed companies and again we may see rerating of these stocks. Keeping the stake same, if it starts managing the same better, we may find rerating in this space.
How Nifty PE Ratio is important?
In February 2000, January 2008 and August 2018 Nifty PE ratio went at overbought levels as per historical data. While in January 1999, May 2003, October 2008 Nifty PE ratio went below 12 levels, which were highly oversold regions. Though no one can predict the top or bottom of the market perfectly but comparison of the current price, EPS (Earnings per share), PE ratio, PB ratio, Dividend yield ratio data with the historical data can be helpful in the analysis process in the investment journey.
So, vital question arises; what next now.
We have three scenarios of how earning could evolve. Needless to say, even these scenarios cannot try to fully predict reality, but we hope they can provide a sense for both upstream & downstream.
– Scenario I : Earnings at Pre-Covid level
With a gradual easing of lockdown measures from May and June, recovery towards normality is assumed to be materialized towards the end of 2nd quarter. Even so, some economic losses would not be offset immediately. But government measures like liquidity support schemes will result in effectively a ‘v-shaped’ recovery scenario.
In this scenario, nifty earning will improve which eventually bring down Price to Earning multiplier.
– Scenario II : Earnings above Pre-Covid level (Best Case)
Prime Minister has announced “Aatmanirbhar Bharat” and GOI is taking significant steps to boost make in India along with supporting MSME’s.
In this scenario, Indian economy will see expansion and recession will be out of the cards. Forward earning which is measure of futuristic earning of companies will surge. This will result in drastic dropdown in Price to Earning.
– Scenario III : Earnings below Pre-Covid Level (Worst Case)
In this scenario, most economies would experience an unprecedented and almost unimaginable contraction in coming quarters. The rebound in 2021 would be relatively muted and it would take until 2023 before our economy have returned to their pre-crisis levels.
Needless to say, this is an extreme scenario with lots of economic, social and political turmoil, and one that looks pretty unlikely at this stage.
Summing up :
The disruption caused by Covid-19 crisis on the economy have changed the fundamental thinking.
Capital markets always priced in future prospects of economy. Hence market will give many good opportunities in the time to come, provided one invests wisely.