After a sharp rally from March lows, the market has cooled off to near 11,000-mark as concerns over rising coronavirus infections and uncertainty over the economy weigh on sentiment.
Last's week's steep fall did not surprise analysts who said that a correction was expected as the market was at an irrational valuation.
"After the rally from March 2020 lows, the Nifty at 21 times P/E was trading at a premium to its long-period average, thus leaving limited scope for upside and was not as attractive as it was a few months back. Even globally, after a sharp run-up in Nasdaq, tech companies there, too, witnessed selling on account of concerns of high valuations," Siddharth Khemka, Head–Retail Research, Motilal Oswal Financial Services, said.
COVID-19 has emerged as one of the biggest threats to the global economy and financial markets in several decades.
The first round of the pandemic caused havoc across large economies, there is fear now that a second wave is threatening large parts of Europe and some other countries.
The market’s direction would depend on the spread and intensity of COVID cases, development around the vaccine and government and regulatory actions to shore up the economy, Khemka said.
Investors should also track how soon the economy would be able to get back to normal and the banking sector, especially on the non-performing assets front and moratoriums.
Globally, trade tensions between the US and China could be another risk, Khemka added.
Several other analysts also blamed market valuation for the correction.
In the last few months, globally the valuations had gone through the roof on the back of heightened retail participation, Rusmik Oza, Executive Vice President, Head of Fundamental Research at Kotak Securities, said.
"The MSCI World Index, which is a good proxy to global markets, still trades at nearly 20 times as compared to its 10-year average of 15 times. In India, the Nifty50 is trading at nearly 20 times on forward PE basis as compared to 10-year average of 16 times," Oza said.
"Between February and now, forward earnings have got impacted by 25-30 percent, whereas markets had either gone closer to or above the pre-Covid levels in the recent rally. This has made valuations look very rich in the short-term."
Vikas Jain, Senior Research Analyst at Reliance Securities, said the Nifty was trading at 21 times above the 10-year long-term average of 18 times and a sharp upmove over the past five months was a concern.
"The reclassification and revamp of multicap funds also created a setback for largecaps as more money will be focussed on high-quality midcaps and smallcaps. The global market corrective action and swift move in the dollar index from lower levels of 92 to 94 also put pressure on commodities and emerging markets," Jain said.
Buy-on-dips market
While the overall market structure remained positive, more sector and stock-specific actions were expected, analysts said.
For Aditya Agarwala, Senior Technical Analyst at Yes Securities, the Indian market remains a buy on dips and the medium to the long-term trend has turned bullish and positive following last Friday’s reversal.
"The decline of 8.50 percent from the recent highs of 11,795 can be termed as a corrective wave 4 within a larger 5 wave impulse upmove," Agarwala said.
The Nifty tested its 200-DMA at 10,760 in a throwback and is showing signs of reversal with a gain of 2.25 percent. Moreover, the corrective wave took the shape of ABC zigzag pattern, which halted at 189 percent Fibonacci extension level, also happened to be close to the 200-DMA at 10,760.
"A sustained trade above 11,000 levels in the coming trading weeks would gradually take the Nifty back to levels of 11,450-11,800. In the event of a decline below its 200-DMA, that is 10,760, a correction to levels of 10,550 is possible. However, these corrections should be used as a buying opportunity as the larger-term trend remains upward biased," said Agarwala.
Though there are concerns like the second coronavirus wave, tensions between the US-China and India-China and the US elections, the overall market structure seems to be positive as the economic growth improves.
"Buying on decline would be a better strategy with a defensive portfolio positioning. We like consumer, rural and agri, telecom, IT and pharma as preferred sectors," Khemka of Motilal Oswal said.
Mid and smallcap companies have been relative outperformers 2020 and the momentum may continue in the near-term. Any weakness, would be looked at as a buying opportunity to add quality stocks in the portfolio, Khemka said.
He expects Nifty EPS to grow 2.4 percent in FY21. Financials, telecom, oil and gas and healthcare should contribute to the incremental growth in the Nifty in FY21, Khemka said. On the other hand, autos, capital goods, cement, metals and utilities sectors are expected to drag.
"Excluding BFSI, we expect Nifty FY21 profits to remain flat YoY on the back of 13 percent decline in FY20," Khemka said.
The market is still not out of woods and buying on dips should be applied to quality stocks and sectors.
Oza pointed out the forward PE will keep coming down as more months of FY22 get captured in future estimates.
"We would be more comfortable assigning a forward PE of 18-19 times as our valuation benchmark. This means the market is still not in the comfort or attractive zone. It is ideal to have an accumulation strategy at every decline in the next few months as we don’t know how impactful the second wave of COVID-19 could be in different parts of the world," Oza said.
Jain of Reliance Securities is of the view that the fall of 1,000 points from the recent highs of 11,800 is a good opportunity to add longs, as the Nifty is close to its long-term 200-day average.
Sectors like private banks, high-quality NBFCs, oil marketing companies, consumer and capital goods sectors are trading below the long-term averages and offer a good risk-reward from the current levels and one could expect 25-30 percent returns over the next one or two years, he said.
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