Oh my dear, market! How broad market valuations have soared post COVID

Nifty 50 saw a sharp decline, plummeting from an all-time high to a low of 7,610 on the back of panic and economic instability caused by the pandemic.

Investors are willing to pay more for the future earnings of Nifty companies—as measured by price to earnings (P/E) ratio--compared to pre-COVID, but not a great deal more. In comparison, investors seem much more confident of the future earnings of non-Nifty companies, as seen from the jump in P/E ratios post-COVID.

The proportion of stocks with high price-to-earnings (P/E) ratios has surged, reflecting a significant shift in market dynamics post-Covid.

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In FY20, only 23 percent of the top 1,000 stocks by market capitalization had P/E ratios exceeding 25 times. Fast forward to FY24, and that number has more than doubled, with 54 percent of these stocks now trading at such lofty valuations, ACE Equities' data showed. This increase from 232 to 538 stocks indicates a marked expansion in the market's appetite for higher valuations, driven by investor optimism and the hunt for growth.

Also read: Six small-caps to buy after the current market fall

The data also shows that stocks that have a P/E range of over 100 have more than doubled to 96 in FY24 from 44 in FY20. This shows confidence among investors that future growth in earnings will justify the prices.

Several factors could have contributed to this rise in valuations. The post-Covid era has seen a flood of liquidity into the markets, led by accommodative monetary policies and fiscal stimulus measures worldwide. Investors, in search of returns in a low interest rate environment, increasingly turned to equities, particularly those with strong growth prospects.

Read more: Nifty, Sensex snap three-day losing streak; Oil & Gas, Media, Metal indices jump over 2%

In early 2020, global financial markets were thriving, with indices like the Nifty 50 reaching around 12,400 and hitting record highs. However, the onset of the COVID-19 pandemic abruptly changed this trajectory.

As the virus spread, governments worldwide imposed strict lockdowns to curb the infection. These measures disrupted supply chains, halted business activities, and created widespread economic uncertainty. For instance, the Nifty 50 saw a sharp decline, plummeting from an all-time high to a low of 7,610 on the back of panic and economic instability caused by the pandemic.

As business activities resumed and the growth potential of companies unlocked, markets gradually started recovering. This trend has pushed up the prices of companies perceived as capable of delivering robust future earnings, resulting in elevated P/E ratios.

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