Time for 'pause' button?

While champagne bottles have been uncorked to celebrate the Sensex crossing the 10,000-point mark, there is the uncertainty in many minds: is the bull run going to continue, or is it time to book profits and get out while the going is good? If stock prices have trebled in a little over three years, and doubled in 20 months, shouldn't this be time for a pause if not some settling of the market, even if not a change of mood? Especially since, despite the handsome 8.1 per cent GDP growth that is now projected for this year, performance at the corporate level has been very mixed in the September-December quarter and profit growth down to the low single digits.

According to the Business Standard Research Bureau's numbers, sales growth tapered from 19 per cent in the July-September quarter to 15.62 per cent for 1,700 companies, and the rising cost of production has resulted in the operating profit growing only 1.99 per cent, compared to 9.2 per cent growth in the July-September quarter. Even leaving out the troubled oil-refining companies, the growth in operating profit was 12.13 per cent, which is noticeably slower than in past quarters. Especially in the context of slower profit growth, the valuation of Sensex stocks at a trailing 12-month price-earnings multiple of 18.8, is not cheap by any yardstick. Sectors like engineering, pharmaceuticals, FMCG, autos and cement are trading at stratospheric valuations. Some of these (like engineering and FMCG) have shown tremendous growth in the last quarter, but in other sectors (like pharmaceuticals and cement), the market is looking ahead for performance that may not be sustained.

On the more optimistic side, it must be recognised that bull markets have their own rationale and price-earning ratios of 25 have been seen in previous highs. Liquidity is still very strong. If foreign flows were robust in 2005 at Rs 47,604 crore, this year they have crossed Rs 5,500 crore already. Domestic mutual funds, which have seen a new wave of investor interest, are also awash with money""and the belated enthusiasm of the domestic retail investor is fresh fodder for the bulls. In that sense, it is a liquidity-driven story so far, with the market's fundamentals now slightly out of line. So the general drift of expectation seems to be that the bull run still has some momentum left; bearish brokers who have been warning about over-valuation have had to watch as share prices have climbed steadily higher.

The liquidity story hinges on the fact that foreign money continues to come in because the medium-term India story is so alluring, and India has an attractive corporate sector with generally good governance standards. But do those focused on medium-term scenarios ignore the potholes along the way-like the poor infrastructure story, the risk of increased inflation, the oil price scenario, the growing uncertainties in West Asia, and the impact of higher interest rates? The fiscal situation has got noticeably better in the last three years, but new spending pressures (the latest being the announcement of a new Pay Commission for government employees) could mean that the "pause button" on deficit reduction will stay pressed for another year. And apart from everything else, the high base effect has to kick in at some point. Time, then, for pressing the same button when it comes to the stock market?