4/23/2020 A turnaround may be around the corner, market stats show - The Economic Times

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A turnaround may be around the corner, market stats show

BY RAJESH MASCARENHAS, ET BUREAU | JUL 30, 2019, 07.19 AM IST Post a Comment

MUMBAI: The sell-off in the stock market might be in the final stages if the shrinking
Big Change:
spread of yield on Nifty earnings over that of the 10-year government securities is to go
The end of Five-Year Plans: All you need to know
by. The lower spread between Nifty earnings yield and government securities yields
indicates that market declines could be limited from current levels, said analysts.

Nifty earnings yield spread with respect to the 10-year government securities yield is
currently trading at 2 standard deviations (SD) below the mean. In the last 20 years, this spread traded below 2SD seven times. On all
the occasions, the Nifty has risen at least 20% in the ensuing one year, according to a study by ProAlpha Capital.

“Whenever the Nifty yield against G-Sec yield has traded below 2 Standard Deviations, we have witnessed very strong stock market
performance over the next one year,” said Mehul Patel, portfolio manager, ProAlpha Capital. “Even on a spread which is less than 2SD,
we have seen that the Nifty has generated positive returns in every such instance of a buy alert over the next one year.”

Nifty has declined 5% in the last one month while mid- and smallcap indices have declined 7% and 9% respectively during this period.
The current correction has led to valuations shrinking with Nifty’s estimated price-to-earnings falling from 19.4 times to 17.7 times. The
10-year bond yield declined significantly by 100 basis points over the past three months to 6.42% on expectations of cuts in interest
rates.

Previously, between November 8, 2016 and December 26, 2016, Nifty fell 7.44% after the government announced demonetisation.
Then, the yield spread between Nifty earnings and bond yield fell below 2SD. Nifty rallied 33% in the next one year.

“The spread in yield between the Nifty earnings and government bonds is tracked to find where the risk-reward ratio is tilting in terms of
macro asset allocation,” said Gaurav Dua, head–capital market strategy, Sharekhan. “A lower spread currently indicates a favourable
allocation towards equities and there may be some shift in funds from debt to stocks,” he added.

Nifty’s earnings per share (EPS) is currently forecasting a growth of 23% in FY20 and 18% in FY21 with nominal GDP growth
assumption of 10%, as per consensus estimates. The Nifty earnings growth will come from banking and finance sector which has
highest weight in the index, said analysts.

“This time most probably the bounceback in Nifty earnings may come from banks, especially corporate banks where we see room for
earnings surprise and valuation expansion,” said Pankaj Pandey, head of research at ICICI Securities. “Banking and financial sector has
the highest weightage in the index.”

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