Sensex at 50k! What justifies the Valuation? Here are 4 analytical reasons that explain why SENSEX crossed the 50K mark in January 2021

January 21 2021, saw a sense of excitement and celebration on Dalal Street. Reason? The Indian equity indices logged new highs with the BSE Sensex hitting the 50,000 mark for the first time on this day.

About 10 months back in March 2020, BSE had plunged to around 25K level where the naysayers, on account of the general pessimism of COVID-19 lockdown had predicted a further fall. The average investor too had bearish sentiments with a heavy toll of COVID deaths, the shutdown of business activity and job losses.

But what went amiss in such a fear psychosis was the support extended by Central Governments across the globe. By providing a stimulus through higher spending and subsidising, the poor were provided with free rations for months together (in India) and direct benefit transfer and food subsidies (in developed countries).

Certainly, the average investor failed to see the tsunami of liquidity.

Also, some sectors did phenomenally well in COVID-19 such as the pharma, hospitals, other industries manufacturing masks, sanitisers and their ilk.    

Hospitals did not have spare beds, even at alarmingly high charges. Masks, medicines, sanitisers and PPE kits were sold in the black in the first few months of the pandemic. A dose of Remdesivir injection which otherwise costs about 2.5K was sold for as high as 50k to 60k.

Further, those industries which could effectively Work from Home did not suffer on account of lockdown. IT industry, for example, was relatively less affected.  

There was a total lockdown only in India for a prolonged period. Even in India barring the major cities, the lockdown was not implemented very strictly. 

Most of the countries including the developed ones had very short lockdowns.

Now, let’s get to the main question – what explains the SENSEX’s climb to 50K? 

  1. Containment of Epidemic:

In the last nine months, India has done significantly better than several countries in containing the epidemic. The number of new infections in India has continued to edge down even as many countries are experiencing a surge of the second wave. While the government had announced a modest stimulus (approximately 2 per cent of GDP), the recovery momentum has been strong. 

  1. Hope from vaccination and Biden coming to power:

Positive news flow on vaccination along with Biden’s victory in the US elections have driven a risk-on sentiment globally. As a result, India has received a disproportionately large share of Foreign Portfolio Flows, around $23 billion in CY20, due to better growth prospects. This is unlike most of the large Emerging Markets (EMs) barring China which reported FII outflows from equity markets.

  1. Pickup in Growth numbers:

While the lockdown has hit the economy hard with GDP contraction of 23.9% YoY in 1QFY21, the growth momentum is projected to recover sharply in 2Q with GDP contraction of 7.5 per cent YoY in 2QFY21. 

High frequency data now points to YoY growth in many sectors. Further, employees with higher skills/higher-income jobs had the flexibility of working from remote locations, even as workers with lower-skilled/lower income lost jobs due to social distancing norms and other restrictions. As a result, the balance sheet of higher-income households is fairly healthy and is driving discretionary spending.

  1. Corporate Earnings:

A sharp rebound in corporate earnings in 2QFY21 has been aided by aggressive cost-cutting measures and lower interest costs. 

The aggregate EBITDA of BSE500 companies jumped by approximately ~7 per cent YoY in 2QFY21 (vs ~27 per cent YoY drop in 1QFY21). Similarly, aggregate PAT grew by ~13 per cent YoY (vs ~30 per cent YoY decline last quarter). The better-than-expected results are driving broad-based earnings upgrades and the consensus estimates now imply that the aggregate PAT of BSE500 companies would grow by ~9 per cent and 33 per cent YoY in FY21 and FY22, respectively. 

In contrast, GDP is expected to contract by ~8 per cent YoY in FY21 and could grow by ~10 per cent YoY in FY22.

What’s the way ahead?

While the above reasons justify high valuations, retail investors may invest via stock or mutual fund and SIP to beat volatility. 

Deepak Jasani, head of retail research at HDFC Securities, suggests rotating funds to safer bets like gold or debt funds to play markets from here on. However, Nischal Maheshwari, chief executive officer for institutional equities at Centrum Broking, advises investors to stay put in the market as any correction is expected to be bought into.

The take-home lesson

This analysis advises the investor to hold their horses and invest smartly as the rally may not be over just yet.  

One could look at sectors and specific stocks which have not rallied so far and will catch up as the economy recovers later this year. Having a long- time horizon to benefit from the stock market, seems certain to pay off.

Let us know what your analysis has to say in the comments below.

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