Jumping into stocks? Read this first... - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Jumping into stocks? Read this first... 

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In this issue:
» Indian markets seem expensive on a relative basis
» Modi all in for curbing red tape
» Ebola and its impact on Africa
» Indian stocks outperform their Asian peers in the week gone by
» ....and more

Share markets in India continue to remain firm. With the Sensex hitting its all time high in the last trading session, the seven month rally recorded by the markets is believed to be its longest ever bull run in seven years.

Is the scenario heating up too much? Are we in the red alert zone yet? Well, that does not seem to be the case. But the fact of the matter is that expectations are high, and thus the broader markets are trading on the higher side.

We did a little bit of data analysis recently, wherein we pulled out valuations data of the BSE-200 index for the past 17 years. Then, we excluded the 10% extremes to remove the over pessimistic and optimistic periods. We further went on to analyze long term returns and how they have fared if one had invested (and stayed invested) into stocks when broader markets were trading at various levels of valuations.

To make the results of the compounded annual returns more meaningful, we excluded the last three years data, but calculated the returns based on the latest closing level of the index.

Finally, we put the returns in various buckets - based on P/E levels - and gauged the results.

The chart below is a result of our study.

Evidence that low P/E investing works
Data Source: ACE Equity; *of the BSE-200 index

As you can see, the chart reveals that the average returns only get better as and when the broader markets become cheaper.

For the BSE-200, the average P/E over this period stood at about 16.7 times based on trailing twelve month earnings - after excluding the extreme scenarios. Currently, the index is trading at over 18.7 times, slightly above the average valuations, but not in the red alert zone yet. Having said that, the valuations are only 15% lower than the peak levels we came across in our study.

We believe it makes sense for investors not to be fully invested in stocks at the moment. With high expectations built in, what is expected to drive the index is the earnings growth considering valuations are above the average levels.

Given the number of articles that have come across in recent times which speak about how retail investors seem to have missed out on the party, we thought it would be a good time to have a discussion on practicing low P/E investing.

Considering the broader valuations, would you be putting your money into stocks at the moment? Or is it time to sit back and wait for another opportunity? Let us know in the Equitymaster Club or share your comments below.

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01:40  Chart of the day
While India may not look particularly cheap an absolute basis, but on a relative basis... it may if a leading daily is to be believed. As today's chart of the day highlights, India has been the biggest beneficiary of FII inflows flowing into emerging markets. But that has led to an important side effect. That of valuations spilling over from the heated to overheated zone; when compared to its peers that is. It is believed that the Indian markets are trading at a premium of some 40% to the MSCI emerging market index. Besides, with the talk of the US Fed seriously considering rate hikes, FII inflows themselves could slow down. The odds do not seem to be in favour of the average investor in present times.

India, the preferred FII destination amongst peers
*Excluding Japan

One of the biggest reasons for the slowdown in India's growth has been lack of reforms and abundant red tapism during the tenure of the erstwhile UPA government. Chronic indecisiveness and lack of willingness to get things moving meant that quite a few projects in the infra space got stalled. Ever since coming into power, the Modi government has been on an overdrive to get rid of delays and hurdles in the execution of key projects. Just to give an example. During the UPA's reign, for a breakthrough on any proposal, it first had to go through various committees including the Planning Commission before any decision could be arrived at. And even those decisions were hardly satisfactory. The Modi government has expressed a strong intention of eliminating layers and pointless committees. We believe this is certainly a step in the right direction. For India to make any headway in terms of sustainable growth, expediting decision making is the order of the day. And the bureaucratic ills that plagued the UPA government was surely one of the biggest clogs in the wheel for India.

It was not too long ago that the African economy was expected to sport the biggest growth rates globally. However, the incidence of the Ebola disease seems to have a SARS like impact on the economy. Readers would recall the kind of disastrous impact that SARS had on the Asian economies and stock markets in 2003. As per an article in Zerohedge, Africa is witnessing similar outcomes. While West Africa has seen GDP plunge by 4%, most projects are getting cancelled. Trade markets are almost not functioning! Now these are factors central banks like the US Fed have chosen to ignore, like in the case of the Ukraine crisis. However the crisis is for real. At a time when the developed markets are going through an anemic phase of growth or that driven by cheap money, real growth is as it is rare. And with Africa expected to show to negative growth this fiscal, global growth rate could be dragged much lower. It is time that like the RBI, other central banks too should recognize and start preparing for the possible crisis on the anvil.

Global markets ended the week on a mixed note on the back of an escalation in the Ukraine crisis. However, the markets in the US remained buoyant due to positive economic data regarding consumer sentiment and improving factory activity. Disregarding geo-political concerns, the benchmark S&P 500 index closed at a new all time high above the 2,000 mark. The Brazilian markets continued their good run from last week and was the top performer this week as well.

In Europe, inflation fell to a five year low indicating that consumer confidence remains low. However, market sentiment has picked up on the expectations of a further easing of monetary policy by the European Central Bank (ECB). The French CAC, the German DAX and the British FTSE ended the week with gains of 3%, 1.4% and 0.7% respectively. In Asia, most markets ended the week on a negative note but the Indian markets bucked this geographic trend and closed the week positively.

Performance during the week ended August 30, 2014
Data Source: Yahoo Finance

04:55  Weekend investing mantra
"If the job has been correctly done when a common stock is purchased, the time to sell it is almost never" - Philip Fisher
Today being a Saturday, there is no Premium edition being published. But you can always read our most recent issue here...
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3 Responses to "Jumping into stocks? Read this first..."

Rusi Governor

Sep 1, 2014

INVESTING in stocks does not depend on timing.

If one does adequate research on a stock before "value investing" and holds it for a period of at least 10 years, any time is a good time for investing. In my portfolio, all stocks held for more than 10 years gave very good returns; those held more than 20 years were outstanding.

I suspect the secret is to conduct intensive research into a company and once convinced of its long term potential, invest (irrespective of the current market valuation) and sit tight for at least 10 years.

Like (2)

R. Mohan

Aug 31, 2014

Yes, at the present prices of Stocks, I feel somewhat hesitant while investing, whether it will continue to go up or start coming down due to profit booking. As the general trend is up, I invest moderately.

Like (2)

ocaka bosco

Aug 30, 2014

I am only say thank to works together in the world

Like (2)
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