Stocks Set To Return More Per Rupee of Shareholder Money - Views on News from Equitymaster

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The Equitymaster Research Digest

Stocks Set To Return More Per Rupee of Shareholder Money
Aug 30, 2016

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Last week, Rahul pointed out that the Sensex is currently trading at about three times (3x) the net worth of the underlying businesses. It is the return on this net worth (called return on equity) that will determine whether the current valuations are justified.

Now, what are the chances of the return on equity of most stocks outperforming expectations?

First, companies will need to grow their revenues at a multiple of the GDP growth rate. The profitability of the businesses will have to move back from the decade lows to historical averages. In fact, this is the premise on which we have estimated the Sensex moving to 40,000 in three to four years.

But there seems yet another reason return ratios, in select cases, could soar.

To help you understand this, I must take you through some mathematical formulae. This may appear a little intimidating at the beginning to some. But rest assured, I will not get into the nitty-gritty of the calculation. Instead, I will just explain the big picture idea I am trying to put across.

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