After the recent rally since early March, the Indian market now trades at a price-earnings multiple of around 16.5 times one year forward earnings.
While that is no longer cheap, valuations today aren't as much of a concern as they were even three months back simply because the outlook for the economy has improved, courtesy a more stable government at the centre.
Also, six core sector industries showed a growth of 4.3 per cent year-on-year in April compared with a low of 1.1 per cent in December 2008.
The Indian market now trades way off its lows and at a premium of around 50 per cent premium to emerging markets, compared with its long-term average of 8 per cent -- in January 2008 it was trading at a premium of over 100 per cent.
As Morgan Stanley points out, broad market valuations as measured by market capitalisation to GDP, are now well past its historical average -- the long term average is 49 per cent whereas at the end of May, the ratio stood at 87 per cent.
That makes the broad market look a lot richer than the narrow market. However, as market watchers have already pointed out, there is a good case for the Indian market to be re-rated; a stronger government can push through reforms faster, liquidity is now available and credit is becoming accessible on easier terms, a stronger stock market allows companies to mop up equity and thereby to de-leverage their balance sheets and most important demand seems to picking up so cash flows will ease.
BNP Paribas' earnings estimate for the Sensex, for 2009-10, has been upped from Rs 845 to Rs 868.
However, the market may be pricing in too much and even though the earnings outlook is now distinctly better, a higher premium at this point in time seems unjustified.
What could act as a bit of a dampener is the large supply of paper -- about $2 billion plus has been raised over the past month through equity issuances and companies say they're looking to sell another $6 billion worth of stock. What's really worrying is that about half of this is from property firms.
