Are The Indian Markets Overvalued?

Indian benchmark indices have gained about 7% over the last two months. 2017 was a boom period when the index rose by 27%, during the calendar year. The market is pricing stocks at more than 23 times trailing earnings per share, as per data from the BSE.
This is again way above the historical average of 17 times.

What analysts estimate for 2018-19?

With an imminent interest rate hike, in India and abroad, we may see some dips in the market. With every quarter being a disappointment for corporate earnings, brokers have had to revise Sensex EPS downwards.

This has left us with a future Sensex EPS of around Rs 1600 by 2018-19. This discounts the index by around 22.5 times, which is above the historical average of 17 times.

Thus valuations are no longer cheap.

Macro data is not comforting

The Stock Market index, amongst other things, is also a barometer of economic prospects over near time horizon. The market is upbeat despite the high oil prices and a stressed rupee. The market appears to have factored in the element of Oil price remaining high in the current year.

On the other hand, the GDP numbers over the last two quarters have been promising. The prospects of a great and timely monsoon after a hot and dusty summer comes as a relief to all including those in the stock market. An unfortunate consequence of the Petrol Price-Rupee exchange rate conundrum is the inevitable Interest rate hike and the consequent Inflation.

This was kept in check in recent times by active Government policy initiatives. Inflation cannot be good for the stock market even if some of it passes on to stock prices. In the near terms stock prices appear to be overvalued. If the RBI hikes interest rates in its forthcoming policy meet, be rest assured that we would see markets falling.

It is interesting to note where the money is coming into the stock market. House hold savings contribution to the stock market has doubled from Rs750 Billion during the peaks of 2008 to Rs1600 Billion in 2017.

Some of it no doubt because of demonetisation, or maybe the Indian investor is coming of age. Contrarily FIIs, who are fair weather friends, are exiting the Indian Market. They have gone chasing the 10year US bonds whose yields recently rose to 3.1%. With the interest rate hike inevitable in US only the serious long-term investors remain.

It is difficult to accept that the markets believe it will be all sunshine from now on. The 2019 Elections are already looming large in the national consciousness. Every ongoing election: Assembly, By polls or even Panchayat is viewed as a "do or die" for the Modi government before 2019.

And going by trends, nobody is better off by the outcomes. For the markets it is an uncertainty. What if we have a contrasting ideologues running the show? A policy paralysis or uncertainty is a sure show stopper for the markets. On the flip side the Modi government added almost 60% to the Index since it occupied office.

It may well be that the index could double by the time the Government demits office. Or maybe the market is not looking that far. This gives us some idea of how long the rally could last. As more uncertainties manifest a correction is inevitable.