Despite the market experiencing a decline for the past five months, one might expect this correction to bring valuations more in line with historical trends, balancing out overvalued and undervalued segments. However, data suggests otherwise. A significant 60% of stocks within the NSE500 index continue to trade above their five-year average price-to-earnings (PE) ratios. This indicates that, despite the broader market downturn, many stocks have maintained elevated valuations, suggesting that the adjustment in prices has not been sufficient to bring them back to historically typical levels.
The NSE500 index comprises a diverse range of companies, including some of the most prominent and well-established names in the market. This broad-based index features leading blue-chip stocks across various sectors, such as Reliance Industries, Infosys, and HDFC Bank, among others. These companies are considered industry leaders with significant market influence, making the index a key benchmark for assessing overall market trends and investor sentiment.
The price-to-earnings (PE) ratio is a widely used valuation metric that measures how a stock’s current market price compares to its earnings per share (EPS). It serves as an indicator of how much investors are willing to pay for each unit of earnings generated by the company. When a stock is trading below its five-year average PE ratio, it suggests that its valuation is lower relative to historical trends. This may imply that the market is assigning a lower price to the stock compared to what it has typically commanded over the past five years. Such a scenario could arise due to various factors, including changes in market sentiment, industry trends, or company-specific developments.
Conversely, when a stock is trading above its five-year average price-to-earnings (PE) ratio, it is generally perceived as being relatively overvalued compared to its historical valuation. This means that investors are currently willing to pay a higher price for each unit of the company’s earnings than they have in the past.
In some cases, a higher PE ratio may be justified if the company is experiencing strong earnings growth, improving profitability, or benefiting from favorable industry trends. However, stocks with elevated valuations often come with increased risks, especially in periods of market corrections. If investor sentiment shifts or broader economic conditions weaken, these stocks may be more susceptible to sharp price adjustments, as their premium valuations leave less room for error.
With close to 60% of India’s largest publicly traded companies still positioned above their historical valuation levels, a significant portion of the market appears to be trading at relatively elevated prices. This suggests that, despite recent corrections, many stocks continue to command premiums compared to their long-term averages.
However, according to analysts, this should not necessarily be a cause for concern for investors. Instead of viewing broad market valuations in isolation, experts emphasize the importance of a more nuanced approach—one that involves carefully screening stocks based on individual fundamentals, sectoral trends, and growth potential. By applying such a focused analysis, investors can better assess whether specific stocks are justifiably valued or if pockets of opportunity still exist within the market.
Historical market patterns indicate that when foreign institutional investors (FIIs) hold a high percentage of short positions—typically exceeding the 80-85% range—it often precedes a market reversal. At present, FII short positions are hovering around 85%, which, according to Feroze Azeez, Deputy CEO of Anand Rathi Wealth, could signal a potential shift in market direction. While past trends are not always predictive, such levels of bearish positioning have, in previous instances, been followed by a turnaround.
Additionally, a crucial factor that has helped cushion the impact of foreign investor selling is the strong participation of domestic investors. Their sustained buying activity has provided a layer of stability, preventing the market from experiencing a deeper downturn. This consistent domestic support has played a key role in maintaining resilience despite global uncertainties and external pressures.
At present, many analysts share the view that the Indian stock market is now more reasonably valued compared to five months ago, following a period of sustained correction. This adjustment has brought several stocks closer to fair valuation levels, creating potential openings for long-term investors. Experts suggest that those with an investment horizon extending beyond 18 months could consider taking advantage of the current market conditions by gradually accumulating high-quality stocks.
In terms of sectoral focus, analysts highlight banking, financial services, fast-moving consumer goods (FMCG), and metals as areas that may present interesting opportunities. These sectors have demonstrated resilience and continue to play a crucial role in India’s economic landscape.
Commenting on the market outlook, Arpit Jain, Joint Managing Director at Arihant Capital Markets, noted that while a short-term rebound from current levels remains a possibility, India may underperform compared to other emerging markets in the near term. He pointed out that global investors have been reallocating capital towards economies such as China and Brazil, which have recently gained favor due to shifting macroeconomic dynamics. Despite the broader market still exhibiting relatively high valuations, Jain emphasized that selective stock-picking opportunities are beginning to emerge for investors willing to take a discerning approach.
In light of the current market conditions, experts suggest that investors take a balanced approach to portfolio allocation. According to Feroze Azeez, Deputy CEO of Anand Rathi Wealth, a well-structured strategy could involve allocating approximately 55% of the portfolio to large-cap stocks, which tend to offer greater stability amid market volatility. The remaining portion could be diversified into mid-cap and small-cap stocks, which, while carrying higher risk, have the potential to deliver stronger long-term growth as market conditions improve.
Meanwhile, Kunal Mehta, Associate Director at Equirus, believes that while the market has already undergone significant price corrections, it is likely to enter a phase of consolidation. He anticipates that a “time correction” may take place, where stock prices remain range-bound until economic growth gains momentum. Mehta also noted that most of the pain from a valuation perspective has likely already played out, suggesting that while sharp declines may be less likely, the market could take time to regain upward traction.