Indian Equity Valuations Are Now Elevated across Metrics, Says Brokerage

Most sectors in India are currently trading at a premium to their respective last-decade averages (in terms of NTM P/E multiples), BNP Paribas said in a report on Indian equities.

Exceptions are banks and sectors dominated by public sector enterprises. Several sectors are also trading at 2-3x the multiples prevailing a decade back. This has reduced the margin of safety, in our view, the report said.

While in some cases, valuation multiples are at a small premium to the 5-year and 10-year averages, the 5-year averages factor in a period of low interest rates and high optical P/E ratios due to the pandemic. The high P/E ratios over the last 5 years have also lifted the last-decade average, and their premium over the absolute multiples prevailing a decade ago, when the current government came in power, are significantly higher than what their premium over average multiple indicates.

“Valuations are now elevated across metrics. In particular, the expanded bond-earnings yield gap indicates muted returns from here as historically this has been a reliable leading indicator. The other concern is that the recovery has not been broad-based, with mass-consumption categories still under pressure. A renewed interest in China and an increase in LTCG tax on equities as the government looks to mobilise resources to drive mass consumption are also potential risks,” the report said.

Strong domestic and FPI flows into Indian equities boosted domestic stocks in 2023. We see no reason for this to change. The macro environment seems favourable with inflation easing. India’s inclusion in global bond indices may support bond yields. Based on state election results, we think market concerns about the upcoming elections have eased. Also, in terms of underlying fundamentals, India has seen double-digit earnings growth with minimal consensus downgrades in recent quarters, the report said.

“Our extensive valuation benchmarking exercise, spanning indices and sectors, indicates that our preferred ‘growth at a reasonable valuation’ opportunities are increasingly limited. We continue to prefer affluent consumption over mass. We prefer private banks, given their strong fundamentals and reasonable valuations. We expect IT services growth to recover and telcos to raise tariffs. We would avoid staples and pharma for growth challenges. We expect autos to consolidate after a strong 2023. We expect high single-digit returns from Nifty 50 in 2024 and prefer large caps,” the report said.