Indian equities are pricing in a V-shaped recovery after the vicissitudes of demonetisation and GST, with their hopes pinned on higher exports, higher consumption and even a comeback in capex

Jeremy Grantham, well-known value investor, has recently predicted a “melt-up” or end-phase of the bubble in US equities before they see a steep fall. Is something similar in the offing for Indian equities?

The irony is that Grantham believes that US investors should diversify into emerging market assets. In his most recent newsletter, he says, “What I would own is as much Emerging Market Equity as your career or business risk can tolerate.” Investors seem to be following his advice about emerging markets with gusto in the New Year.

Global equity markets are in a euphoric mood. Asian markets rallied on Monday, taking cues from the robust up-move seen in US equities last week. Strong signs of economic recovery in major economies give their respective stock markets a reason to celebrate. In a rub-off effect, the National Stock Exchange’s Nifty index too surged above 10,600 point levels, touching a record high on Monday.

Indian equity investors are pricing in a V-shaped recovery after the vicissitudes of demonetisation and the introduction of the goods and services tax, with their hopes pinned on higher exports, higher consumption and even a comeback in capex. Threats posed by rising crude oil prices, a ballooning fiscal deficit and higher interest rates are being airily dismissed.

The equity market’s surge is in sharp contradiction to the performance of the bond market, which has seen a sharp increase in yields over the past few weeks.

According to some market analysts, the sentiment on D-Street is being driven by expectations of improved corporate earnings in the third quarter. Earnings announcements begin this week. The momentum is said to be further buoyed by continuous liquidity inflows, especially by mutual funds. They see some more legs to this rally.

Others caution that a significant revival in corporate earnings is still some time away and warn of a sharp correction in case of disappointing results. Also, the frenzy seen in mid-cap and small-cap stocks, which continue to outperform key indices, is something to be wary about.

The January effect is a seasonal increase in stock prices during the month, when the rally is attributed to an increase in buying by funds making fresh allocations in the New Year.

Valuations of Indian equities are expensive. However, as the chart shows, the current one-year forward price-to-earnings multiple of the Nifty, at around 18 times, is lower than the levels seen during the same month in 2015 and 2008, indicating that there’s enough room for a melt-up.

source: livemint.com