More internet companies may get added to Nifty 50, index valuation may rise even more: Credit Suisse

30% of Nifty constituents, which account for 35% of the index weight, to still offer valuation expansion potential in the near future: Credit Suisse

More new-age or internet-based companies are likely to get added to Nifty index

Indian equities have performed well recently. Over the past few years, Indian economy’s structural appeal has improved, validated by the equity market’s impressive returns since the beginning of last year when the pandemic started. MSCI India has delivered over 39.8% returns in USD terms as of 17 December 2021. A Credit Suisse report says that Indian market has proved to be a good wealth creator even in the long term with the MSCI India Index delivering 3-, 5-, 10-, and 20-year compound annual growth rates (CAGRs) of 17.8%, 14.1%, 10.2% and 13.1% in INR terms. Going forward, Indian equities are likely to get de-rated. However, they may not decline toward historical average P/Es any time soon.

Valuation expansion potential in Nifty

The Nifty index as of 17 December was trading at a 9.3% higher valuation compared to the last five-year average. At the peak, the valuation even touched 22.8 times in October. However, looking at the Nifty constituents and their respective valuation premiums/discounts, Credit Suisse expects about 30% of Nifty constituents, which account for 35% of the index weight, to still offer valuation expansion potential in the near future.

On the other hand, about 24% of the Nifty constituents (15% in weights) have a high probability of valuation contraction going forward. Over the past three years, several companies having high valuations were added to the Nifty index. Going ahead, more new-age or internet-based companies are likely to get added to the index. Thus, valuation in the near-term may look much higher than the historical average since the country is experiencing an acceleration in the start-up revolution.

Equities likely to see valuation deterioration

Credit Suisse in its India outlook report said that in the near term, while there is likely to be de-rating in equity markets worldwide, including India, valuation multiples of Indian equities are unlikely to revert to pre-pandemic levels thanks to the improved macroeconomic fundamentals, as well as, corporate balance sheets.

At present, Indian equities command a 12-month forward P/E premium of 78% versus the MSCI Emerging Markets Index, up 44% from average for the past 10 years, and while India may see some valuation deterioration in the foreseeable future, it is not expected to fall back to historical average levels given the improving fundamentals coupled with the improving domestic inflows, including retail inflows.

Possibility of higher FDI inflows

In terms of growth, the Nifty EPS is expected to accelerate further materially in the next couple of years. Indian equities also continue to remain susceptible to FPI selling as per the report. Also, if corrections continue further in the next few weeks, the risk-reward may start turning favorable for equity investors. If the central government continues its reform momentum, India is also likely to continue attracting higher foreign direct investment (FDI) inflows. Simultaneously financialization of savings, robust corporate balance sheets may support a revival in capex spending.

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