Great Indian Valuation Party continues. But…

One of the problems in raising concerns about valuations is that you can end up looking like a party pooper. And if future markets movements do not happen in line with what you are expecting, you can even end up looking like a damn fool!

But that’s fine. I don’t intend to predict anything here.

It’s just that if you look at the data, it does trigger some concerns. I am a simple investor who wishes to buy low (and maybe occasionally sell high too). 🙂

Unfortunately, the ‘buying low’ part doesn’t seem to be easily happening these days.

For Nifty50, the valuation of the index today is in excess of PE-26.

Now historically, this is rare! And has happened very few times in the last couple of decades. In fact, there seems to be a sort of hidden upper ceiling when it comes to valuations and markets have trouble keeping above that ceiling.

Have a look at the chart below.

The blue line is actual Nifty level. The red line is hypothetical Nifty level at PE24 at that time. The green line is hypothetical Nifty level at PE12 at that time.

Nifty PE Pattern Trend

Clearly, Nifty seems to have trouble staying above PE24 (considered overvalued) and below PE12 (considered highly undervalued). Whenever it reaches either of these two levels, it seems to bounce off in opposite direction! (read full analysis here).

Also, a move beyond PE 25-26 has been historically rare and generally resulted in steep falls. And as can be seen from tables below, markets do not spend a lot of time on the extremes:

Nifty PE Band Group Time

But does it mean a sharp fall or a full-fledged market crash is just around the corner?

I don’t know.

River water seems to be flowing above the danger mark. But will it flood the city or not is something that I cannot predict. And markets have this evil habit of surprising. So who knows they may remain at these levels for much longer.

Ofcourse every now and then, the valuations will be stretched and go where it hasn’t gone in last many years. But it’s important to consciously remember that sooner or later, the reversion towards mean happens. And this is what learning from history and identifying basic patterns helps you do.

I regularly publish index PE data and as many of you might have noticed, is showing a lot of red. Check here for the latest update in November 2017.

I have done detailed analysis earlier which shows (or seems like modestly predictive) that future returns tend to be low when investment is made at very high valuations. To summarize, it is something like this:

Nifty PE Ratio Return Patterns

(Please do note that above are average figures. And depending solely on averages and ignoring the actual deviations can be catastrophic. Read about the risk of depending only on averages and please… never forget about it.) 🙂

Now interestingly, the Nifty PE has remained in and around 24 for last one and a half year. And as of now, we have been flirting with PE26 and above(s) for the last couple of months.

I did some further slicing & dicing of data to see what happens to index returns (in next 1, 2 and 3 years) when investments are made in PE24 and above zones. Here is the data cut:

Nifty High PE returns historical

It’s self-explanatory and unfortunately, paints a sorry picture.

Do note that the correlation seems very strong but the number of data points is not very high.

All these hints towards something not being right. But the party still seems to be on…

Maybe, the earnings will surprise and bring down valuations without hurting market levels. Or maybe, the constant flow from retail investors is and will support the markets for longer. Or maybe this time it is ‘really different’ and we will continue to reach newer heights on the mountain of valuations. 😉

But like all bull markets where new highs are being regularly made, it’s very easy these days to write off valuations as something of an unnecessary botheration. Everything is moving up like there is no tomorrow. Investing in IPOs is once again perceived to be a quick way to make money. But trees do not grow to skies for a reason. And valuations matter. Believe it or not.

I don’t intend to predict a big crash here.

Markets have a mind of their own and will crash when they want and not when we predict. But I feel that we should not throw caution out of the window. We should be alert. Alert to the possibility of lower future returns.

But since I have used Nifty50 PE data as a representative of the market, let’s make note of few things which should be kept in mind:

  • Nifty of today is much different from Nifty of earlier years. Infact, there is a regular change in index constituents. So it’s easily possible that high PE is the new normal. After all, in earlier years Nifty was made up of low-PE companies while these days it’s populated with high PE ones (read this interesting analysis).
  • Another aspect linked to above point is that PE data provided by NSE is based on standalone numbers of Nifty companies. It would be ideal to use consolidated numbers as many Nifty companies have subsidiaries that have a significant impact on earning numbers. This has a much larger effect now than it would have had in yesteryears. But NSE publishes Nifty PE using its own set of criterias and decisions.
  • For all practical purposes, one cannot wait for investing when valuations are rock-bottom (like PE 12-14). If that is the case, the investor will end up on many bull runs that begin at 15 and end at 27. 🙂
  • Investing in individual stocks is a different matter altogether. You can always find undervalued stocks in overvalued markets. There can be stocks that continue to command high premiums and still deliver spectacular returns year after year.

I don’t know what the so-called smart money would be doing now. But moving out of equities completely is not something that I do. Ofcourse, focusing on asset allocation with an eye on valuation and operating in preferred tolerance bands is something that should help most people.

Nothing more to add from my side here. Here is an old tweet that acts as a sort of guide 😉

Let’s see how things pan out in near future.

Either we will make more money or learn a few new or relearn a few forgotten lessons. 🙂


  1. Wonderful article. Quoting ‘river water levels’ and ‘trees growing to the skies’ brought a lot of charm to the article. These articles are like fire alarms and no one knows whether the fire would burnt down the entire building or small fire one can put off or dummy one. What can go wrong from here that can trigger the slide or avalanche. Few predictions from my side :

    ♣ Outcome of the upcoming election results in certain states going opposite to the ruling party
    ♣ Natural Disasters or Environmental Catastrophes (Delhi Smog etc..)
    ♣ Any big policy change like DeMo or GST in coming days (public are tired of big changes) or big
    Scams within the market or with Govt
    ♣ International Testing/War involving nukes, missiles and other military might
    ♣ FIIs shifting enmass to other emerging markets
    ♣ Crude prices hitting record highs
    ♣ Big jolt to US or European markets

    When Tsunami hits, everything gets destroyed irrespective of new or old, better or poor designed structures. Even fundamentally strong stocks or blue chips would not able to withstand the pressure.

    Current market is for traders but not for investors. As like traders, investors should go with Stop Loss concept, keeping aside emotions and attachments. Be a robo trader or robo investor.

  2. P/B ratios seem to be just acceptable as being quoted by the proponents of “This time it is different” argument. An analysis taking P/E as well as P/B trends would probably throw more insights.

    Political situation, liquidity in global markets, comparison to an emerging market (China?) at a similar stage of ‘transformation’ might be able to validate / invalidate “This time it is different” argument.

  3. Beautiful analysis .nifty may also go sideways also for few months ,timewise correction and then move up or down significantly… but it high time to book profit and keep cash ready for any crash.can put in debt fund and relax till then.

  4. you are right. when nifty is near 6500 points I have bought TATA STEEL @ 210 and HINDALCO @ 80 rs. and when nifty is near 10000 I have sold TATA STEEL @ 650 an HINDALCO @ 220.

    BTW TATA STEEL is now @ 700 and HINDALCO is @ 260.

    I always take a individual stock. but take a NIFTY as a just guidance.

  5. Dev,

    Not only Indian market other world markets like USA, Japan, China too have gone up. I think low interest rate or even negative interest rate in developed world is driving this market. One difference is quality growth stock is taking market to high but at the end it will normalize. I hope it happens sooner than later, otherwise it will be painful for recent equity investors. Once that happens all these new SIP investors who are thinking that money making is easy in stocks will never again come back to market.


  6. Very nice article from Mr. Dev.

    The question is that, Right now should we invest or not into equity mutual fund as lumpsum ??
    If yes which category should we select (Balanced / Large Caps / Diversified / Mid Caps / Thematic / Any Sector Fund ect..)
    If I am first time investor in mutual fund and want to invest for 5-6 year time horizon where to invest ??

  7. We should always be cautious in risky markets. There is no doubt.
    Biggest problem is selling. When to sell and what to sell. Our “Greed” doesn’t allow us to sell!!
    I am investing since 2005 and have seen the crash of 2008, when my investments melted down infront of my own eyes within days. I sold most of stocks and was able to save some profits. But, with mutual funds, the story was different. I had many SIPs going on and I didn’t stop them. It continued during 2008 meltdown also and later gave wonderful returns.
    But, market really corrects looking at the PE? That is really a question to ponder.
    If the sub-prime crisis had occurred when PE was at 15, do you think crash wouldn’t have happened? I doubt it.
    Tsunami doesn’t happen because the river was flowing above the danger mark.
    If earthquake occurs, Tsunami happens and it creates havoc.
    I agree that, PE is indicator of stretched valuations. But, that may not lead to sudden meltdown. If valuations are stretched for a longer duration, market might start correcting – that also should happen over a period of time.
    I feel that, meltdowns happen due to unexpected sudden events.
    So, is there any such danger in the near future? Krish has nicely listed out the possibilities.
    If BJP wins Gujarat with good tally and wins Himachal also, then markets will hit new highs. And we may see a PE of 30 also!!

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