The market could still correct further but it seems quite unlikely for the Nifty to start trending significantly below 9,800, says Reliance Securities Head of Research Naveen Kulkarni
Indian stock market is witnessing a Price Earnings ratio (PER) compression as the global cost of funds is steadily rising. This phenomenon started in the early part of the year and it has amplified as the effect of the liquidity tightening have started playing out.
The Indian market now trades at a PER of 19x FY19E Nifty earnings which is higher than the long-term average of ~15x on one-year forward earnings.
However, the current PER is optically higher because of the sluggish earnings growth of 6 percent CAGR over the last 6 years as compared to the 12 percent growth over the longer term.
Nonetheless, the optical illusion of a higher PER creates a challenge in a market where international fund flows are reversing.
Election season further stokes uncertainty but positives emerging:
Moreover, elections over the next 9 months will further add to volatility. Thus, rising interest rates, currency depreciation, and election uncertainty are key macro winds which will keep markets under pressure.
On the bright side earnings, momentum is better than the last few years and valuations have come down from the peak levels. The Government and RBI have worked to infuse liquidity and douse fires like the handling of IL&FS case.
Crude has started correcting and currency (while still weak) is stabilizing. So, positives have started to emerge which will cushion the market correction.
The market could still correct further but it seems quite unlikely the Nifty to start trending significantly below 9,800 as it will start trading at ~16x FY20E earnings providing valuation comfort also.
Coping mechanism to weather the storm:
In this market, companies with high PER and disappointing earnings are not going to be spared. They will de-rate. However, companies with quality cash flows and reasonable PER are likely to see increased allocation.
Improving earnings growth trajectory does get rewarded in any market cycle even though the rewards could be delayed at times.