By krsna Khandelwal – A veteran market analyst
Friends,
The Indian markets have been under pressure of perceived weakness in earning capacity of the companies in view of the slow down effect of the US economy. This part is not understood by me as if there is slow down in US the fund managers will look towards places where money can be still made and India happens to be an ideal place. Here the slow down is more in mind than in practice for in an economy that is on slow down path the job opportunities plummet. In India the biggest problem for the enterprises has come in the form of non-availability of workers (blue collar or white collar) and the experts . They have plans and are offering unheard of salaries here. It is now acknowledged fact that the salaries have gone up maximum here in India in percentage terms. So, the argument of the impending slow down is untenable.
Secondly, the commercial vehicle sales take a down turn right before the slow is noticed. This also yet not the case in India.The cap-goods industry suffers from dearth of orders and this too is not case here.The steel and cement are the sectors that show lack of demand and that too is not the case here.The prices of real estate get halved or so from the peak rather than adjusting only slightly to match the demand and supply for the time being. This too is not the case here.
Why then the markets should behave like they are behaving. I think this is mostly on account of the fatigue factor for the markets ran very fast , for far too long without respite . They had to take some breather. This came along with a combination of factors and some doses of downright misguidance from the so called analysts and technical chart readers. I have never seen the chartists to say rightly the impending mood of the market but have the explanation ready post fact. The juncture chosen for it is the intervening period between the two quarter where the results are absent for almost a month and a half.
There is no doubt that Indian economy has traditionally been suffering from slow down after every two and half to three and a half year of good run for half the period of slow down. This is not any more the case in view of the integration with world economies to a greater extent , IT initiative, new found confidence ( China taken as an example), the demographic factor ( of average younger population), reforms undergone, abundance of capital and the need to catch up with peers. Here, the entrepreneurship of the Indian businessmen also had chance to demonstrate to world that they are second to none. So the set cyclic pattern holds good no more.
The inflation has been termed as making market weaker but in fact it is the inflation that will prove to be its best friend. Why should a businessmen suffer by the higher inflation numbers only if he is not going o be taxed more. Another area where he has fear is his depreciation of plant and machinery not being covered fully (to the extent of replacement cost ) by the extra-profits generated. This is also not the case in India.
Supposing the profit growth does not remain as high as in recent past, it will still be very strong.
Now the question how low the prices of companies may go down. There is an interesting point to note. In case of commodities businesses we can apply thumb rule. It is that if a company is in to the metals and commodities and was set up prior to 1990, it can be safely valued at about eight times of book value. The only exception should be a company bleeding on account of losses year after year. Luckily there are no such companies in nifty fold. This valuation has become more concrete after the recent surge in cement and steel and other metal prices which go in to the construction of the manufacturing facility. This price improvement works as a barrier for the new entrants.
The FMCG companies also deserve to be valued at eight times of book value due to the brands owned by them . Here again the companies should be profitable and old established. We have number of such companies in nifty.
Thirdly, the banking and finance companies should have the valuation to the minimum extent of at par with book value and to the extent of up to four times of book value in case of companies with strong brand and with good growth rate. We have both types in nifty.
The cap-goods companies have to be valued lower than they actually trade for. Because their asset base is not all that strong , the brand does not matter so much and they are also competition prone.
The auto-manufacturers have asset base and the possession of valuable design and brand value. They how ever suffer heavily in times of slow down and hence should valued slightly conservatively and process has already been undergone by market.
Pharma companies should always be taken at the value offered in market because they can’t be rightly valued ever and historically have given returns better than the most sectors.
The previously given valuation parameters cover most of the spectrum of nifty companies. By these we can see that the chances of nifty drifting below by more than 7% is a remote possibility. The possibility of its advancing by 100% in next two to three years should however not be questioned. The inflation will have only two ways i.e. going up or going down. I don’t think there is problem either way. The sobering of the interest rates is a must in view of the recent lowering of interest by the BoE and BoJ. When the lowering of interest rates happens here the markets will have difficulty in staying range bound and will break out with a force.
There is one more matter supporting the market. It is of public new found love for Unit Linked Plans which garner about Rs.70000 crs every year. This finds way in to market without the fund manager having to say any thing, only a small portion goes in to debt securities.
Hari Om
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