Sensex- Twin Peaks - But, with significant differences:: JPMorgan

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Stratoscope
Twin Peaks - But, with significant differences





• Special focus: The Sensex is flirting again with the peak level attained
in January 2008. An analysis of market and economic conditions leads
us to conclude that current market valuations are a lot more healthy
compared to the earlier peak.
• Significant differences in valuations. Current market valuations at 17x
forward earnings are only marginally higher than the medium term
average of 16x. Valuations in Jan 2008 at 23x forward earnings were in
bubble territory. Also, qualitatively: 1) The dispersion in valuations for
index constituents is a lot lesser, implying that excesses and skew are not
as prevalent. 2) The current uptrend has been driven by re-rating of
stable sectors like Healthcare, IT services and Consumer. High beta
sectors linked to the investment cycle and financials have de-rated
substantially in relation to the peak levels of the earlier bull market.
• Improved economic backdrop. Key economic indicators are also better
anchored at this point compared to late in the last market cycle. 1)
Growth is more stable, 2) Inflation, while sticky, is moderating and 3)
the Government has more policy freedom available.
• With the Sensex hitting our 2010 target of 20,500, we have over the
last three weeks been calling for consolidation over the short term.
A pick up in primary market activity and choppy data points on industrial
growth and tight liquidity could likely aid this trend. But we remain
positive over a 12-month horizon. Our optimism is premised on: 1)
Valuations at just about average levels, 2) Healthy earnings growth and
improvement in RoEs forecast, and 3) Expectations of another round of
quantitative easing in developed economies.
• Portfolio stance. Downgrading IT services from overweight to neutral,
due to a combination of rich valuations, selective demand recovery,
margin pressure and currency headwinds. We are overweight Capital
goods, Energy and Financials and cautious on the consumption cycle,
particularly Autos & Telecom and Materials.