Warren Buffett’s favourite stock market indicator moves above historical average in India

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December 8, 2020 3:58 PM

Often called the ‘Buffet Indicator’ after ace investor Warren Buffett who popularised it, the gauge uses the market cap of all listed firms and compares it to the country’s GDP to assess if the stock market is undervalued or overvalued. 

what means of circuit filter for investorsAmong sectors, only Nifty FMCG, Nifty Metal, and Nifty Realty closed with gains while others were in the red.

With the run-up in equity markets, India’s market-cap-to-GDP ratio has increased to 91%, up from 56% in the previous financial year. The recent surge in m-cap-to-GDP ratio has been aided by strong surge in domestic stocks helped by healthy foreign fund inflows. With this, India now sits above its long period average of 75% market-cap-to-GDP, brokerage and research firm Motilal Oswal said in a recent report. The indicator is often called the ‘Buffet Indicator’ after ace investor Warren Buffett who popularised it. The gauge uses the market capitalization of all listed firms and compares it to the country’s GDP to assess if the stock market is undervalued or overvalued. 

Market cap to GDP improves

“Market-cap-to-GDP ratio has been volatile as it moved from 79% in financial year 2019 to 56% (FY20 GDP) in March 2020 and 91% at present (FY21E GDP) – above its long term average of 75%,” the report said. Along with this, India’s share in the world market capitalization has also improved to 2.3%, just shy of its historical average of 2.4%. “Over the last 12 months, the world’s m-cap has increased 19.9% (USD16.3t) against an 8% rise for India,” they added.

Although India’s market capitalization grew 8% in the last 12 months, it was behind the 54% growth seen by Chinese equities, 39% by South Korean stock markets, and 29% growth recorded in Taiwan’s market capitalization.

Valuations surge

The strong rally in stock markets has pushed Nifty’s valuations higher. “The Nifty trades at a 12-month forward P/E of 21x, a 11% premium to its long-period average. The Nifty P/B of 2.8x is at a 10% premium to its historical average,” the brokerage firm noted. Even the 12-month trailing P/E of Nifty is at 26.7x, a 34% premium to its long-period average of 19.8x. “At 3.1x, its 12-month trailing P/B is also above its historical average of 2.8x,” they added.

Among the Nifty constituents, half the stocks are now at a premium to their historical averages. Bajaj Finance is at a 109% premium to its 10-year average P/E ratio, Asian Paints is at a 52% premium, Shree Cement is at a 77%, Divis Laboratories is a 70% premium while Nestle India at 52% premium to historical average. Sectorally, except for PSU Banks, capital goods, infrastructure, media, and metals all other sectors are now trading at premium to their 10-year P/E ratio.

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