Investment Shastra

Nifty currently fairly valued? Should you still be investing?

India Inc. waits for its election outcome next month with abated breath, with high hopes for a stable government to take centre stage. However, the macro problems affecting the economic growth of the country, such as slow investment growth, high inflation and rising current account deficit continue to plague its economic growth.

For quarter ended Dec ’13 too, Capital intensive sectors took a hit on the back of sluggish construction activity and slowdown in order inflow, while companies in the global sectors outperformed.

In this backdrop, let’s look at how the Nifty 50 companies performed in Q3 of FY13-14? Has the market overvalued or undervalued Nifty vis-à-vis its MRP, and, what should investors do?

Let’s find out…

What is Nifty@MRP?

As investors, we constantly track the Nifty movements. To make investing more profitable and not a game of mere chance, we need a solution, a solution which could help us to identify whether the market is over-reacting or under-reacting, whether it is grossly depressed or irrationally exuberant. This is exactly what Nifty @ MRP is!

Considering that the Nifty stocks are the top traded stocks of the country, we expect them to be traded at their MRPs (fair value). But in reality, the stocks are driven by their earnings over the long term. Hence, it is said that the market is a slave of the corporate earnings. Thus, Nifty @ MRP gives an indication of whether the Nifty is fairly valued or whether irrationality is driving the markets.

What is the latest value of Nifty@MRP?

Nifty@MRP - Dec 13 - QuarterConsidering the free float market capitalization at the MRP of individual stocks and the share price data as of 23rd April, the Nifty@MRP comes out to be 7016. On 23rd April, NSE Nifty index closed at 6840, which is 2.57% or 176 points below the Nifty@MRP of 7015. It indicates that the index is fairly valued.

Sensex@MRP values for Dec 13On similar lines, the Sensex@MRP comes out to 21145. On 23rd April, the Sensex closed at 22645, which is about 0.59% or 135 points above Sensex@MRP.

So, considering December-13 quarter financial performance, we can say that the broader market indices are currently fairly-valued.

Analysis of the December 13 Quarter financial performance of the Nifty 50 companies

Quarterly performance

For the December 2013 quarter, the cumulative net sales of the Nifty companies have grown by 16.06% as compared to the December 2012 quarter. The cumulative operating profits (EBITDA) and net profit (PAT) increased by 17.60% and 16.69% respectively for the same period.

9 Monthly performance

Analysis of the 9-month performance of the Nifty companies reveals that the cumulative net sales of the Nifty companies has grown by ~12.54% as compared to the 9 months of FY12. On the other side, the cumulative operating profits (EBITDA) and net profit (PAT) increased by 14.41% and 11.5% respectively for the same period.

Leaders and Laggards of NiftyMost of the Nifty companies seem to have recovered from the dismal run as far as financial performance is concerned in the December quarter as well barring some exceptions. Capital intensive sectors such as construction, capital goods, power and metal stocks continued to report weak performance. While the order inflow for capital goods companies has picked up, the effect is yet to be seen in the topline & bottomline numbers. Similarly, steel and cement demand has been sluggish while construction activity has been hampered due to execution delays.

Compared to these sectors, defensive sectors like FMCG, Pharma as well as IT outperformed. Auto has been a mixed bag, with companies seeing sluggish demand in domestic sectors while those focused on exports have done well. Coming to the BFSI sector, public sector banks have shown marginal improvements in non-performing assets (NPA) on their books barring some exceptions like United Bank. While the performance of the private sector banks continues to remain good, many banks have reported significant increase in their NPAs. However, this still remains a minor percentage of their total advances.

With respect to the financial performance, the list of leaders and laggards from the Nifty 50 companies reflect this trend. Leaders include companies like Bharti Airtel, Dr. Reddys Laboratories, Gail India, TCS, Tata Motors Tech Mahindra and Sun Pharmaceuticals. On the other hand, laggards include capital intensive companies like BHEL, Tata Power, BPCL, DLF Ltd., Ultratech Cement and Grasim Industries.

Over all, out of 50 Nifty companies, around 23 companies are trading below their MRP (Under-valued), 4 Companies are trading close to their MRP i.e. are fairly valued while 23 companies are trading above their MRP (Over-valued).

Future Outlook

For the quarter ended December 31, 2013 India’s GDP growth slowed down to 4.7% levels, mainly due to deceleration in agricultural growth. This was the seventh consecutive quarter of sub 5% growth. The Indian economy has been plagued with high fiscal deficit of 4.1% and a sticky inflation of 8% plus for the last 5 years. This has led to increased wage pressure, rising cost and high interest rates. Which has led to, low fixed capital investment rates in the country and a slowdown in manufacturing and services sector. Or ultimately slow job creation! This now seems like the vicious circle and urgent policy intervention or reset would be needed to arrest the negative loop.

The RBI governor has raised rates thrice since Sept ‘13, his main agenda being to curb consumer price inflation leading to sustainable growth. However, much of the future outlook for the Indian Economy hinges on the outcome of the Indian General Elections.

Opinion polls are forecasting an impressive show by the BJP led NDA coalition in the forthcoming National Elections. And Indian equities have rallied by nearly 8% over March largely on the back of these expectations. We think that a strong reformist government post elections can help in resurgence of investment climate and economic growth. The sectors likely to benefit most are infrastructure, Power and PSUs. For detailed note click here.

However, we believe that even if there is a positive outcome in the National Elections, a decisive turn around in economic growth and corporate profitability will take some time. As the problems of the economy is not just one election result away. Rather getting out of the sub 5% growth level would require action at multiple points before one should start factoring in an optimistic outlook for the economy and the market.

A fairly valued Nifty suggests limited upside from hereon. In fact, our past experience suggests a huge possibility of a correction as very few investment opportunities with strong risk reward scenario are available. We would therefore at this juncture caution against chasing low quality stocks with poor financials. And focus your energies on buying only quality stocks with strong moats only at attractive valuations!

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Aliya Sayyed

Manager - Equity Research; Total 10 years works experience ranging from equity analysis, portfolio management, and financial planning. MBA in Finance. Passionate about equity research. Likes reading Finance, business, and classic fiction. Spends free time with friends and family.