Indian equity markets were trading firmly in green on Wednesday. While Sensex reclaimed 60,000, Nifty 50 climbed above 17,900. Amid the recent rally, investors are looking to enter the stock market to take advantage of the bull momentum. For all those who are confused when to buy stocks, Zerodha co-founder Nikhil Kamath shared some advice on Twitter. The entrepreneur told people looking for stock tips to follow the Buffett Indicator – the ratio of the GDP to the US stock market market cap.
The so-called Buffett indicator is often used to assess the valuations of stock markets of a country. The formula for this indicator is made in a way that it may be used for any nation, and Kamath wants people to use it in order to decide when to buy stocks in India. It may be noted that Warren Buffett himself said that no single formula is enough to time the stock market.
In order to assess the valuation of Indian stock markets, one needs to divide the present market cap of the Indian stock market by the GDP and find out the percentage of it. If the percentage is between 75 and 90, it is considered that the market is fairly valued. Anything above 90 indicates that the market is overpriced, and when it goes below 75, it shows the market is undervalued. In the chart shared by Kamath in the tweet, the undervalued zone is represented in light blue colour and according to the Zerodha founder one needs to “wait for the Blue zone and buy anything” as that is the perfect time to buy stocks.
What Buffett indicator is telling about India’s stock market valuation
Nikhil Kamath tweeted, “To the people looking for stock tips, wait for the Blue zone and buy anything; stick to nifty constituents… Everything is cyclical.” According to the Motilal Oswal chart shared in the tweet, India’s market cap to GDP ratio for FY23 stands at 103%, which indicates that the market is now overvalued. The chart also demonstrates that the market remained materially undervalued in FY09, and in FY20, during which the country was severely affected by the coronavirus epidemic. Since FY20 however, the market has remained overvalued. Note that while the Buffett indicator might be a good way for investors to analyse when is the right time to buy stocks, according to Nikhil Kamath, there are several analysts and experts which believe that this indicator is not a good measure of the Indian stock market.
Does the Buffett indicator always work?
Some analysts have even said that the Buffett indicator has already become less relevant in the case of Indian markets because it takes into account publicly-trading companies only, and completely ignores the rise in private equity investments that contribute significantly to the GDP. Another criticism of this indicator has been that it focuses only on equity markets and ignores other asset classes like bank fixed deposits, real estate, and debt markets. Hence, it is not a true representative of the market value of all assets. Analysts have also said that there are many domestic companies with significant overseas operations that contribute to the GDP by exports. Hence, their growth at valuations exceeding GDP growth is not counted in the Buffet Indicator.