Market to remain directionless for next few months, warns Kotak Institutional Equities

KIE sees majority of froth being present in the broader market.

Despite the recent sharp correction in the Indian equity market, analysts at Kotak Institutional Equities remain cautious. They expect the market to stay directionless for the next few months as it adjusts to the excess returns of the past few years.

The firm noted that while the market experienced a downturn, returns have remained largely flat over a 12-month period. As a result, KIE does not see significant value opportunities despite the correction and anticipates a lackluster trend ahead. The firm attributes its cautious stance to rich valuations across sectors, the risk of earnings downgrades, the persistence of higher global interest rates and reduced interest in emerging markets among global investors.

"Most sectors and stocks are still trading at rich valuations, with the extent of overvaluation rising in inverse correlation to market capitalisation, quality and risk," the firm said. In particular, the brokerage foresee most pain for small and midcap stocks.

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"We expect the Indian market to see a diverse performance across caps, sectors and stocks
in the next few months. Large-cap indices and stocks may be range-bound, while several midcap, small-cap and ‘narrative’ stocks may see a sharper correction," KIE noted.

Looking ahead, the brokerage also expects the Street to adjust its fair valuation multiples for stocks and earnings assumptions of companies in light of the recent market correction. "Over the past 18-24 months, analysts and investors had increasingly relied on random multiples, unconventional valuation methods, and overly aggressive assumptions about price, profitability, and volume to justify stock prices, driven by irrational exuberance in the market," the firm remarked.

In other words, the firm anticipates that the 'theory of reflexivity' that propelled the market upward to also influence its downward movement. "This will be particularly evident in mid-cap, small-cap, and ‘narrative’ stocks, where valuations had largely become detached from reality," it noted.

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