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Market’s collective wisdom signaling earnings growth to sustain; >20x P/E turning out to be the normal in a lowyield world

* The essence of the applied words in the context of NIFTY50 is that the forward P/E of the index, which has hovered between 20-23x for most of CY21, can remain in the same range in the future as long as earnings growth continues. Therefore, assigning past historical averages (LTA of 16.6x or 6% earnings yield) to arrive at the target multiple may not be relevant going ahead especially in a low yield world and rising earnings.

* Over CY21-TD, the ex-ante rolled forward NIFTY50 EPS has advanced by around 27% while the index has gained 30%. Forward P/E has remained rangebound at 20-23x and currently is towards the upper end at 23x. This implies that earnings outlook is explaining a larger part of the price action. Therein lies the risk – and, if earnings disappoint, P/E could potentially move to the lower end of the range at 20x. Having said that, the earnings base continues to expand unlike the ‘earnings recession’ seen over 2015-20 when real earnings growth was practically zero. On an aggregate basis as well, the ‘PAT to GDP’ ratio has sharply improved to a 7-year high of 3% in FY21.

* Q2FY22 looking promising so far: Initial results and business updates from the IT pack (TCS, Infosys, Wipro, and Mindtree), banks (HDFC Bank), NBFCs (Bajaj Finance) and other severely impacted sectors such as leisure (Delta Corp), retail (Avenue Supermarts) and real estate indicate largely in-line or above consensus expectation results. This trend is also corroborated by high-frequency indicators for Q2FY22-TD such as PMI, exports, GST collections, etc. In the developed markets, strong quarterly earnings from US banks indicate that economic recovery continues.

* Other key developments over the past week:

* India’s stronger relative growth: IMF’s latest World Economic Outlook maintains India’s growth over FY22-FY23 at 9%, which ranks it as the world’s fastest-growing economy. Relatively too, India stands out as the overall global growth has been downgraded by 10bps to 5.9% for CY21 largely driven by developed economies such as the US

* Oil price risk starting to show up on trade deficit: Oil prices rebounded above US$80 per barrel and we believe is a key risk for the Indian economy, which is starting to show up in the form of the trade deficit rising to a multiyear high of US$22bn in Sep’21

* CPI inflation dipped lower than expected at 4.35% for Sep’21 on base effect and lower food prices. On the flip side, CPI inflation in the US was higher than expected at 0.4% o Government continues to focus on pro-growth policies with the launch of PM Gati Shakti - National Master Plan for Multimodal Connectivity

* Sectorally capital intensive and cyclicals sectors such as power, PSU banks, auto, metals and consumer durables continued to outperform over the past week

* FPI flows were positive at US$138mn while DIIs flows were negative at US$438mn.

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