Interesting question that we all have the moment we have cash to invest, are the market overvalued, fairly valued, undervalued.. Hmm to answer that lets take a peek at the past, let’s see how has the market done in the past.
“History doesn’t repeat itself, but it does rhyme.” – Mark Twain
Digging up past record of Nifty since Jan-99 we have 13 years of data from which lets assess what Nifty has done previously. During the Bull Run 2003-08, we saw P/E rising at a much faster clip than the EPS i.e more speculative growth than fundamental growth.
However since 2011 we have seen EPS rising steadily while P/E declining, few of the reasons have been the Euro crisis, our own domestic issues (deficit etc) we as bottoms up investors should not excessively worry about macro picture too much, what is important is to find a high quality business that is growing profitably at a reasonably fair price and sit tight!
During the speculative period, we also saw P/B rising to dizzying high levels and some so called analysts (market pundits) justifying them.LOL since then their P/B has come down to about 2.9 levels. This study of ours shows one thing, we are not on either extremes means neither highly overvalued nor a flat bargain levels. Let’s dig deeper and analyze, try and view from different angles. (The table shows in percentage terms occurrence of events)
Our current Nifty data as on 4 September 2012, P/E – 17.69, P/B – 2.87, Div Yield – 1.57% (source: Nse website)
Comparing past 13 years, we see presently Nifty is at a P/E range 17-21 and it has traded 38.8% of times over our past data. Not exactly trading cheap!
Presently P/B of 2.87 indicates Nifty has traded 29.2% times in this range, not extremely expensive by any stretch.
The current Dividend Yield on Nifty stocks is 1.57% which is what 73.5% times Nifty has traded in past 13 years. Again we get no conclusive case of over or undervaluation.
So what do we interpret from the following data, The Valuations of market are not highly enticing and there may be a risk of further downside before any upside. Conservative investors must demand a greater margin of safety from their investments during such time. ( Why more margin of safety.?)
As Seth Klarman said in his book, “Margin of Safety”, Future is unpredictable. The river may overflow its banks only once or twice in a century, but you still buy flood insurance. “Investors must be prepared for any eventuality.” He describes that an investor looking for a specific return over time, does not make that goal achievable. “Targeting investment returns leads investors to focus on potential upside rather on downside risk.” “Rather than targeting a desired rate of return, even an eminently reasonable one, investors should target risk.”
Find undervalued opportunities and look for protecting yourself from the downside than looking to blindly participate in the upside.! Happy Investing!
By: Rohan Pinto (MMS 2011-13)