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Why investors should be cautious now...
Thu, 4 Sep Pre-Open

The Indian markets are on a roll! The benchmark indices have conquered important peaks: 27,000 Sensex and 8,000 Nifty. There is a sense of euphoria in the air as far as Dalal Street is concerned. Already there are people talking about the 10,000 level for the Nifty! There are no doubts in investor's minds regarding the sustainability of this bull market. In such a situation, we do not want to pour water on investor's hopes. However, we do call for caution. Not just because the Indian markets are no longer cheap. There are certain fundamental reasons that should be a cause for concern.

First of all, the positive sentiment has not really showed up in corporate earnings. The consensus is for a slow and steady improvement in corporate profitability. No big pickup in growth is expected in this financial year at least. Without earnings picking up, the momentum in stock prices cannot be sustained.

Also, a lot of the growth during the UPA 2 years was driven by social sector spending. This has placed a huge burden on the government's finances. The NDA government has decided to bring down the fiscal deficit by curtailing social sector spending. Even though this move will be a long term positive, it will act as a headwind to growth in the short term.

Then there is the mess in the banking system. Healthy credit growth is often a sign of healthy economic growth. As per a leading business daily, non-food credit offtake has been negative recently. With PSU banks under the cloud of corruption and inefficiency, it is hard to imagine these institutions being a driver for growth going forward.

Yet the markets are not concerned. Geo-political concerns have been disregarded. FIIs continue to pour money into India. The markets have even ignored the drought that has impacted the country this year. Due to this, consumer price inflation is unlikely to come down any time soon. Thus, the RBI also cannot be expected to bring down interest rates quickly. Without the tailwind of falling interest rates, it is hard to imagine this rally sustaining itself for an extended period of time. The BSE Sensex is up 43% YoY and is trading at a P/E ratio of 18.6 times earnings. While we are not arguing that markets are expensive, we do believe that investors should tone down expectations of huge returns from the markets.

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Feb 19, 2018 (Close)