40% weightage. The rest of the market has largely underperformed. On the other hand if we take most developed markets like the USA, Germany, UK, etc the market cap/GDP is today above the levels of 2007 despite these economies not doing very well in terms of growth. As such the nominal levels of the indices have little meaning. The overall market capitalisation is today trading near the lower end of the historical band. There are cycles of euphoria and despair and we are more near despair levels today.
Profit margins of companies are depressed—now one of the reasons for a compression in the market value of companies has been depressed profitability. Contrast this with the sharp move in the markets of countries like the USA despite slow economic growth.
The profit margins of companies in the USA are today 40% higher than the last 30 years average. The drivers for this have been low growth in wages due to high unemployment and low inflation, record low interest rates which have cut down the interest expenditure of corporate hugely over the last five years as well as stable to low input costs for companies due to the global slowdown. This lends credence to the saying “markets are a slave of earnings”.
But the reverse has been true in India. Higher inflation has led to greater demand for wages, input costs have been high for companies despite the prices being down globally due to rupee depreciation and high interest rates have eaten into the earnings of companies. This has also combined with a significant slowdown in the economy because of which the operating leverage of companies has also gone down. The good thing, however, is that most companies have been using the downturn to become leaner and as such when growth picks up the improvement in profitability will be sharp. Although statistics on profits-to-GDP are not readily available, the net margins data gives a good picture.
Growth and governance discount
The other factor that has kept the markets cheap has been the growth and governance discount. Growth in the