The fundamentals may be improving but it’s liquidity that’s driving stock prices rather than valuations.
The 435 point sell-off in the markets on Wednesday was perhaps overdue. It’s money that seems to be driving up stock prices because it’s becoming harder to justify the current valuations, even if the factory output numbers for April came in ahead of expectations.
| INDIA AHEAD | ||
| 17-Jun-09 | % Chg* | |
| SENSEX | 14,522.84 | 49.59 |
| NIFTY | 4,356.15 | 44.20 |
| STRAITS TIMES | 2,271.45 | 33.62 |
| HANG SENG | 18,084.60 | 33.21 |
| TAIWAN TAIEX | 6,195.91 | 18.90 |
| SHANGHAI SE COMP | 2,810.12 | 18.41 |
| KOSPI | 1,391.17 | 15.33 |
| Source Bloomberg * Over Mar 31, 2009 | ||
Kotak Securities is skeptical about the sustainability of the current market rally and believes that the momentum could peter out or even reverse unless there are earnings upgrades that make valuations more reasonable, macroeconomic conditions improve, the government acts leading to positive news flow or the high liquidity levels sustain. For sure, valuations right now are bordering on the expensive. The BSE Sensex trades at multiple of just under 17 times estimated 2009-10 earnings and at just under 14 times estimated 2010-11 earnings.
Earnings for the BSE Sensex (ex-energy) are expected to come off by about 5-6 per cent this year and grow by about 15-17 per cent next year. While the March 2009 quarter numbers may have been better than expected, it’s unlikely that clear signs pointing to earnings upgrades will emerge until early next year. Also, while the macroeconomic environment may be getting better, with some sectors such as consumer durables seeing strong growth, the capital goods space continues to turn in a weak performance leading industry watchers to believe that investments are likely to be postponed.
Again, while interest rates have eased considerably they could rise in the second half of the year in the wake of large borrowings by the government and a higher current account deficit driven by higher-than-expected oil prices. The budget, of course, could contain incentives for growth but the impact will not be immediate.
The good news is that liquidity continues to pour into Asian markets--- new money going to all Asian equity funds tracked by EPFR continued to stay above $1.5 billion for a second week in June. However, with valuations now at historical averages, and equities less attractive to some, there has been some amount of profit taking in these markets.